Association of Chartered Certified Accountants (ACCA) Certification Practice Test

Cross elasticity of demand is influenced by whether goods are...

1. Independent or dependent

2. Substitutes or complements

3. Normal or inferior

4. Elastic or inelastic

The correct answer is: Substitutes or complements

Cross elasticity of demand measures how the quantity demanded of one good responds to a change in the price of another good. The correct answer regarding the influence on cross elasticity is that goods are classified as substitutes or complements. Substitutes are goods that can replace each other, meaning that if the price of one increases, the quantity demanded for the other is likely to increase as consumers switch to the cheaper alternative. This would result in a positive cross elasticity of demand. Conversely, complements are goods that are used together; for example, an increase in the price of one good (like printers) may lead to a decrease in demand for the complementary good (like ink cartridges), resulting in a negative cross elasticity. Understanding this relationship between substitutes and complements is essential in economic analysis, as it helps businesses and policymakers predict consumer behavior in response to price changes. The correct classification of goods into either substitutes or complements is pivotal for analyzing how interrelated products affect one another in the marketplace.