Cross Price Elasticity

1. Cross
Price
Elas-city
of
Demand
EdExcel
Economics
1.2.3

2. What
is
Cross
Price
Elas-city
of
Demand?
• Subs-tutes:
– Subs4tutes
are
products
in
compe--ve
demand
– With
subs4tutes,
an
increase
in
the
price
of
one
good
(ceteris
paribus)
will
lead
to
an
increase
in
demand
for
a
rival
product
– The
value
of
XED
for
two
subs-tutes
is
always
posi-ve
• Complements:
– Complements
are
products
in
joint
demand
– A
fall
in
the
price
of
one
product
causes
an
increase
in
demand
for
the
complementary
product
– The
value
of
Xed
for
two
complements
is
always
nega-ve
Cross
price
elas4city
(Xed)
measures
responsiveness
of
demand
for
good
X
following
a
change
in
the
price
of
a
related
good
Y.
With
elas4city
ques4ons
–
remember
to
write
down
the
correct
formula
for
a
mark!

3. Cross
Price
Elas-city
of
Demand
(XED)
Calcula-ons
Beats
Studio
headphones
retail
at
approximately
£200
per
unit.
Following
a
change
in
price
of
the
headphones
(an
increase
in
£20),
there
is
an
increase
demand
for
a
rival
brand
of
headphones
by
5%
What
is
the
XED
of
this
price
change?
• %
change
in
demand
of
Y
=
5%
• %
change
in
price
of
X
=
10%
• Coefficient
of
PED
=
+0.5
• The
two
goods
are
fairly
weak
subs4tute
products
Table
shows
price
and
quan4ty
demanded
of
goods,
X
and
Y
Price
of
X
Quan-ty
demanded
of
X
Quan-ty
demanded
of
Y
£30
400
250
£15
700
400
Calculate
the
XED
for
Y
with
respect
to
the
price
of
X.
• %
change
in
price
of
X
=
-­‐50%
• %
change
in
demand
for
Y
=
+60%
• XED
for
good
Y
=
-­‐1.2
• The
two
goods
are
fairly
close
complements
Changing
prices
and
demand
for
Dr.
Beats
headphones

4. Understanding
the
Coefficient
of
Cross
Price
Elas-city
• Subs-tutes:
– Close
subs-tutes
have
a
strongly
posi-ve
cross
price
elas4city
of
demand
i.e.
a
small
change
in
rela4ve
price
causes
a
big
switch
in
consumer
demand
• Complements:
– When
there
is
a
strong
complementary
rela4onship,
the
cross
elas4city
will
be
highly
nega-ve.
– An
example
might
be
games
consoles
and
soware
games
• Unrelated
products:
– Unrelated
products
have
zero
cross
elas4city
e.g.
the
effect
of
changes
in
taxi
fares
on
the
market
demand
for
cheese!
The
stronger
the
rela4onship
between
two
products,
the
higher
is
the
co-­‐efficient
of
cross-­‐price
elas4city
of
demand

5. Cross
Price
Elas-city
of
Demand
-­‐
Subs-tutes
Close
subs-tutes:
A
small
rise
in
price
of
X
causes
large
rise
in
demand
for
Y
Price
of
S
Demand
for
T
P2
P1
Q1
Price
of
X
Demand
for
Y
P2
P1
Q1
Q2
D
D
Q2
Weak
subs-tutes:
A
large
rise
in
price
of
S
leads
to
small
increase
in
demand
for
T

6. Cross
Price
Elas-city
of
Demand
-­‐
Complements
Close
complements:
A
small
fall
in
price
of
A
causes
a
large
rise
in
demand
for
B
Price
of
E
Demand
for
F
P2
P1
Q1
Price
of
A
Demand
for
B
P2
P1
Q1
Q2
D
D
Q2
Weak
complements:
A
large
drop
in
price
of
E
causes
only
small
rise
in
demand
for
F

7. Cross
Price
Elas-city
–
Cinema
Ticket
Prices
UK
Cinema
Ticket
Prices
Average
annual
price
in
the
UK,
2000-­‐2013
2000 4.40
2002 4.29
2004 4.49
2006 4.87
2008 5.20
2010 5.95
2013 6.53Online
streaming
e.g.
Neelix
Direct
DVD
Purchases
Pay
TV
–
Films
on
Demand
e.g.
Sky
Alterna4ve
entertainments
including
gaming
Subs4tute
Factors
Food
and
drink
prices
Apps
to
enhance
the
customer
experience
Discount
programmes
for
cinema-­‐goers
Cost
of
parking
/
transport
Complement
Factors
Total
UK
cinema
admissions
remain
roughly
stable,
with
166m
admissions
in
2013
Cinema
4cket
prices
are
rising
–
but
£6-­‐£7
is
s4ll
a
rela4vely
low
price
for
an
evening’s
entertainment?

8. Cross
Price
Elas-city
of
Demand
EdExcel
Economics
1.2.3