Substitute Goods
What is Substitute Goods?
Substitute goods are goods that can be used in place of each other to satisfy a particular need or want.
When the price of one good increases, the demand for its substitute also increases, as consumers switch to the relatively cheaper alternative. Examples include Coke and Pepsi, or butter and margarine.
Substitute Goods: a worked example
A campus cafe sells a large coffee for $3.00, and the tea bar across the hall sells 200 cups a week. The cafe raises coffee to $3.60, a rise of 0.60/3.00 = 20 percent. Over the next month the tea bar sells 260 cups a week, an increase of 60/200 = 30 percent. Nothing about tea itself changed: not its price, not incomes, not the number of students. The tea demand curve shifted right purely because coffee became expensive relative to tea, and a 20 percent coffee price rise pulled 30 percent more buyers into tea.
The mistake students make with substitute goods
The usual error is drawing the change on the wrong curve. Told that Coke's price rose, students shift Coke's demand curve left, because fewer people are buying Coke. Coke's own price change is a movement along its demand curve; only Pepsi's curve shifts, and it shifts right. The wrong version is tempting because 'people bought less Coke' sounds exactly like demand fell. Demand means the whole schedule, and a good's own price never moves its own demand curve.
Substitute Goods questions
How can you tell if two goods are substitutes?
Two goods are substitutes if the cross-price elasticity between them comes out positive, so the test is arithmetic rather than a judgment call. If bus fares rise 10 percent and rides on a competing shuttle rise 8 percent, the cross-price elasticity is 8/10 = +0.8 and the two are substitutes. The bigger that positive number, the closer the goods sit in buyers' minds, and a number near zero means they are unrelated.
Do substitute goods have to be the same type of product?
Substitute goods do not have to be the same type of product; they only have to fill the same need for the buyer. A bike and a bus fare are substitutes for getting to school, even though one is a vehicle and one is a ticket. What settles the question is whether buyers actually switch when the relative price changes, so substitutes are defined by behavior rather than by the physical item.
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Related terms
Common comparisons
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