Question

If commodity X and the commodity Y are substitute goods, what will be the cross elasticity of demand?

Answer 1

Cross elasticity of demand is said to be positive, when increase in the price of one commodity (Y) leads to an increase in the demand for the other commodity (X). When two goods are substitutes for each other, cross elasticity will be positive because a decrease in the price of one decreases the demand for the other. For example, tea and coffee are substitutes. A fall in the price of coffee (Y) increases the quantity demanded of coffee, but reduces the quantity demanded of tea (X). Changes in the price of coffee and in the quantity demanded of tea will, therefore, have the same sign, i.e., cross elasticity is positive.