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Microeconomic Theory

Notes
E = P /Q × ∆Q /∆P
c y x x y

Here E = Cross Elasticity of Demand; P = Y Initial Price of Goods; ∆Py = Y Change in Price of Goods;
y
c
Q = X Initial Quantity of Goods; ∆Q = X Change in Quantity of Demand of Goods
x x
6.21 Nature and Degrees of Cross Elasticity of Demand

(i) Positive: For Substitutes cross elasticity of demand is negative. In other words, when object
substitutes to each other then in this situation the percentage increase in price of an object will
increase in demand of other objects, for example, increase in price of coffee, demand of tea will
increase because both are substitutes.

Illustration

Suppose price of coffee is 50 paisa per cup, demand of tea is 50 cups. If the price increases to 70 paisa per
cup then demand of tea rises up to 100 cups. Therefore, cross elasticity of demand of tea is assumed on
the basis of following equation—
P ∆Q
___
y

E = × ____ x

∆P
Q
c
x y
Q = 50 cups; Q = 100 cups; ∆Q = 100 cups – 50 cups = 50 cups
x x 1 x
P = 50 paise; P = 70 paise; ∆Py = 70 paise – 50 paise = 20 paise
y
y
1
50
50
5 __
___
___

E = × = = 2.5 (E > 1)
2
50
20
c
c
Therefore, cross Elasticity of demand for tea is more than substitutes i.e., cross elasticity of demand or
tea and coffee can be claret shaved in Fig. 6.26. In this figure on OX-axis quantity of tea and on OY–axis
in cafe the price of coffee are shown. When price of coffee is OB then demand of tea is OQ cup. When the
price of coffee increased to OA then demand of tea increased to OQ . DCDC curve indicates demand of
1
tea on different quantities on different prices of coffee This curve is lined from left to right .This proves
that on increase of price of coffee demand of tea increases and decrease in price of coffee demand of tea
decreases.
Fig. 6.26
Y
DC
Positive Cross Elasticity
Price of Coffee (`) B E E 1
A
O DC X
Q Q
1
Quantity of Tea
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