Can you define a pair of substitutes in terms of their cross-price elasticity? And what about...

Can you define a pair of substitutes in terms of their cross-price elasticity? And what about a pair of complements? What is the marginal rate of substitution (MRS) of two perfect substitutes? And what is the MRS of two perfect complements?

Expert Solution

The cross price elasticity measures the degree of responsiveness of quantity demanded of a good with a change in the price of the other related good

In case of the substitutes,the cross price elasticity will always be positive because if the price of good such as tea increases then the demand for its substitute coffee will increase and vice versa.

In the case of complements such as such as car and gas the cross price elasticity will always be negative because if there is an increase in the price of the gas,then the demand for its complements gas will decrease too.

Marginal rate of substitution refers to the rate at which the consumer is willing to give up some amount of good X in exchange for good Y as they give him equal satisfaction.

In the case of perfect substitutes ,the MRS will always be constant as the consumer is willing to give up same amount of good X in exchange for good Y as they are equally satisfying and it can be seen in the form of parallel straight lines isoquants

In the case of perfect complements which means the goods which have to consumed with another good,the MRS is impossible and the shape of the isoquant will be L-shaped in this case

Rahul Sunny answered 2 years ago

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