The Interaction of Demand and Supply: Alternative Demand (Substitutes)

This section explores how the concept of substitutes influences the interaction of demand and supply in different markets. Understanding substitutes is crucial for analyzing market dynamics and predicting how changes in price affect consumer behavior and market outcomes.

What are Substitutes?

Substitutes are goods or services that consumers can use in place of each other. If the price of one good increases, consumers are likely to switch to a substitute.

Examples of substitutes include:

• Coffee and tea
• Butter and margarine
• Different brands of chocolate
• Public transport and private cars

Demand for Substitutes

The demand for substitutes is typically high when the price of the original good increases. This leads to an increase in the demand for the substitute good.

The cross-price elasticity of demand measures the responsiveness of the quantity demanded of one good to a change in the price of another good. For substitutes, the cross-price elasticity of demand is positive.

$$ Cross-Price Elasticity of Demand = \frac{\text{Percentage Change in Quantity Demanded of Good A}}{\text{Percentage Change in Price of Good B}} $$

A positive cross-price elasticity of demand indicates that the goods are substitutes.

Impact on Market Outcomes

When the price of a good changes, the demand for its substitutes is affected, which in turn impacts the market for those substitutes.

1. Increase in the price of a good: This leads to an increase in the demand for its substitutes. The quantity demanded of the substitute increases, leading to a higher price and potentially higher quantity supplied of the substitute.
2. Decrease in the price of a good: This leads to a decrease in the demand for its substitutes. The quantity demanded of the substitute decreases, leading to a lower price and potentially lower quantity supplied of the substitute.

Example: Coffee and Tea

Consider the market for coffee and tea. If the price of coffee increases significantly, consumers may switch to tea. This would lead to an increase in the demand for tea, resulting in a higher price and potentially a higher quantity supplied of tea.

Table: Cross-Price Elasticity of Demand for Substitutes

Good	Price Change of Good	Impact on Demand for Substitute	Direction of Change in Substitute's Quantity Demanded
Coffee	Price Increase	Substitutes (e.g., Tea)	Increase
Tea	Price Increase	Substitutes (e.g., Coffee)	Increase
Public Transport	Price Increase	Substitutes (e.g., Private Cars)	Increase
Private Cars	Price Increase	Substitutes (e.g., Public Transport)	Increase

In conclusion, the relationship between demand and supply is significantly influenced by the existence of substitutes. Changes in the price of one good can trigger shifts in the demand for its substitutes, leading to adjustments in the market for those substitutes and ultimately affecting market equilibrium.