## Elasticity: A Measure of Response

Read this chapter to learn about the concept of elasticity. Be sure to read Sections 5.1-5.4 following the introduction.

### Responsiveness of Demand to Other Factors

#### Cross Price Elasticity of Demand

The demand for a good or service is affected by the prices of related goods or services. A reduction in the price of salsa, for example, would increase the demand for chips, suggesting that salsa is a complement of chips. A reduction in the price of chips, however, would reduce the demand for peanuts, suggesting that chips are a substitute for peanuts.

The measure economists use to describe the responsiveness of demand for a good or service to a change in the price of another good or service is called the cross price elasticity of demand, eA, B. It equals the percentage change in the quantity demanded of one good or service at a specific price divided by the percentage change in the price of a related good or service. We are varying the price of a related good when we consider the cross price elasticity of demand, so the response of quantity demanded is shown as a shift in the demand curve.

Equation 5.4

${}_{}$

$e A, B=\% \text { change in quantity demanded of good } A \% \text { change in price of good } B$

Cross price elasticities of demand define whether two goods are substitutes, complements, or unrelated. If two goods are substitutes, an increase in the price of one will lead to an increase in the demand for the other – the cross price elasticity of demand is positive. If two goods are complements, an increase in the price of one will lead to a reduction in the demand for the other – the cross price elasticity of demand is negative. If two goods are unrelated, a change in the price of one will not affect the demand for the other – the cross price elasticity of demand is zero.

An examination of the demand for local television advertising with respect to the price of local radio advertising revealed that the two goods are clearly substitutes. A 10 per cent increase in the price of local radio advertising led to a 10 per cent increase in demand for local television advertising, so that the cross price elasticity of demand for local television advertising with respect to changes in the price of radio advertising was 1.0.Robert B. Ekelund, S. Ford, and John D. Jackson. "Are Local TV Markets Separate Markets?" International Journal of the Economics of Business 7:1 (2000): 79–97.