Association of Chartered Certified Accountants (ACCA) Certification Practice Test

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What does cross elasticity of demand measure?

The change in quantity demanded of a good due to a change in consumer income
The change in quantity demanded for one good when the price of another good changes
The average price change over time in an economy
The relationship between supply and demand

The correct answer is: The change in quantity demanded for one good when the price of another good changes

Cross elasticity of demand measures the responsiveness of the quantity demanded for one good to a change in the price of another good. This concept is particularly useful for understanding the relationship between substitute goods and complementary goods. When the price of one good changes, cross elasticity helps determine how this affects the quantity demanded of another good. If two goods are substitutes, an increase in the price of one may lead to an increase in demand for the other. Conversely, if the goods are complements, a price increase in one could result in a decrease in demand for the other. This measurement is crucial for businesses and economists as it provides insights on consumer behavior and market dynamics. Understanding how the demand for a product responds to changes in the price of related goods can inform pricing strategies, marketing decisions, and overall market analysis. The other options address different economic concepts, such as income elasticity or general supply and demand relationships, which do not capture the specific interaction that cross elasticity of demand focuses on.