What does positive cross elasticity indicate about two goods?

What does positive cross elasticity indicate about two goods?

• A. Complements
• B. Substitutes
• C. Independent goods
• D. Inferior goods

Answer: (B)

Cross-price elasticity of demand measures how the quantity demanded of one good responds to a change in the price of another. When this cross elasticity is positive, it means that as the price of one good rises, people buy more of the other good. That pattern occurs when the two goods are substitutes—they can replace each other in consumption. For example, if the price of coffee goes up, many consumers switch to tea, increasing tea’s demand. In contrast, if the cross elasticity were negative, the goods would be complements—goods often used together—so a higher price for one would reduce demand for the other. If the cross elasticity is zero, the goods are independent and a price change in one has no effect on the other. And income effects (related to inferior goods) are about how demand changes with income, not the price relationship between two goods. So a positive cross elasticity points to substitutes.

Cross-price elasticity of demand measures how the quantity demanded of one good responds to a change in the price of another. When this cross elasticity is positive, it means that as the price of one good rises, people buy more of the other good. That pattern occurs when the two goods are substitutes—they can replace each other in consumption. For example, if the price of coffee goes up, many consumers switch to tea, increasing tea’s demand.

In contrast, if the cross elasticity were negative, the goods would be complements—goods often used together—so a higher price for one would reduce demand for the other. If the cross elasticity is zero, the goods are independent and a price change in one has no effect on the other. And income effects (related to inferior goods) are about how demand changes with income, not the price relationship between two goods. So a positive cross elasticity points to substitutes.