A Level Economics AQA Practice Exam

What does the formula for cross price elasticity of demand (XED) represent?

1. % change in quantity demanded of good Y / % change in price of good X

2. % change in quantity demanded of good X / % change in price of good Y

3. % change in income / % change in quantity demanded

4. % change in price of good Y / % change in price of good X

The correct answer is: % change in quantity demanded of good X / % change in price of good Y

The formula for cross price elasticity of demand (XED) is indeed represented by the percentage change in quantity demanded of one good (good X) divided by the percentage change in price of another good (good Y). This measure shows how the quantity demanded for a good responds to a change in the price of a different good. When the XED is positive, it indicates that the two goods are substitutes; when the price of good Y rises, the demand for good X increases. On the other hand, if the XED is negative, it suggests that the goods are complements; an increase in the price of good Y leads to a decrease in the demand for good X. Thus, using this formula allows economists to gauge the relationship between two goods in a market context, which can have significant implications for pricing strategies and understanding consumer behavior. Other formulas represent different economic concepts. The percentage change in income relative to quantity demanded measures income elasticity, while the changes in price between the same or different goods address other relationships and do not provide the insights that XED does about the relationship between goods.