This question is an important one, because there are many reasons a person may dress or act in a manner associated with their "opposite" gender, and in the case of transexual children societal understanding can save lives.
Be aware most of the terms we are discussing are vernacular labels, and to a degree reflect stereotypes which are not in real life so simple, as gender expression and identity can be very nuanced and complex.
Cross Dressing
A "Cross dresser" is a general term for any person who routinely wears clothing typical of another gender, regardless of their reasons for doing so.
Transvestites
A "transvestite" is typically a male, often heterosexual, who regularly wears female clothing as a sexual fetish or as an act of expression of social defiance etc.
A fictional example of a transvestite might be the character "Klinger" from the TV series M.A.S.H. who feels compelled to cross dress as a form of protest as well as a form of defiance and self expression.
For some, the term transvestite is a perjorative.
Transexualism
A "transexual" is an individual with gender dysphoria, who deeply feels their mind and spirit is of different gender than the body they were born in. Many transexuals never cross dress at all, or do so only during a phase where they transition to the gender they wish to live or are discovering their transexuality.
The distress they feel is often profound and has a major impact on their lives. Suicide rates for untreated transexuals are in excess of 30 percent, and account for a significant number of childhood and teen suicides as young transexuals reach puberty and experience their body and societal expectations inexorably changing in a manner which for them is entirely wrong.
These extremely profound feelings of being in the wrong kind of body are not temporary, most transexuals report a disconnect between their body gender and their mind from their earliest memories.
A popularized expression of transexualism would be the phrase "a woman trapped in a man's body."
Transexualism is a gender condition distinct from sexuality. A transexual may be heterosexual, bisexual, or homosexual and studies suggest they reflect the rest of society in regards to the percentage of those who identify as homosexual etc if you consider their declared gender as "correct."
The accepted treatment for gender disphoria is, on confirmation/recognition of the diagnosis, often sex change. The degree of sex change may be as simple as full time cross dressing to allow an external expression of the "true" gender or one which involves hormone therapy and/or surgical reconstruction. Remarkably, suicide rates for treated transexuals drops to below 2 percent.
A transexual who fully transitions gender does so at great pain and expense, including sacrificing their ability to become a parent and going through a series of excruciating major surgeries. When considered along with the extraordinarily high rate of suicide if left untreated, this should indicate the remarkable degree of distress a transexual individual can feel when their body does not match their actual gender.
Gender is a central aspect of identity, with great impact on an individual developmentally as well as in all aspects of interpersonal relationships and societal role.
Gender disphoria is remarkable as one of the few psychological disorders which is regularly and succesfully treated through surgical intervention, and it seems likely that in the future the biological root causes may become known. In the future newborn babies may be assigned gender not only as a result of cursory visual examination but in conjunction with brain scan and DNA analysis.
Our relatively new understanding of transsexualism very strongly suggests that society should consider adopting measures to detect and assist transexual children prior to puberty instead of simply condemning them as "freaks" or "perverts." Most transexuals desire nothing more than to live a "normal" life where their gender is simply accepted and as unremarkable as anyone else's.
"Drag"
A "Drag Queen" is a campy and sometimes perjorative term for a person, typically a male, who cross-dresses as a form of performance art or theatre. Often this involves exaggeration or parody of gender differences through dress and behavior as a means of provoking audience reaction.
Contrasts
The psychology of these different forms of transgenderism is very different in nature. For example:
A biologically male drag queen might crossdress in a way which is exaggeratedly "effeminate," and seek attention. Cross dressing would only be for the sake of audience reaction and be entirely public.
However a born-male transexual would be more likely to cross dress in a way as to pass as unremarkably "feminine" and typically seeks to pass unnoticed. This transexual would likely argue that they are in fact female, and that their body is what is inappropriate to their true gender, and any cross dressing they engage in would be as likely to be for comfort while at home, in other words an "audience reaction" or public notice is about the last thing they would want.
While a male transvestite might relate a story of wearing a female relative or friends clothing and becoming sexually excited when young. Clothing while cross dressing might be highly sexualized and any public cross dressing is typically intended to spark a reaction.
In short, while the public may lump anyone who cross dresses together under a typically perjorative stereotype, these forms of trans-gender behavior are completely distinct.
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