Question

How will a change in price of coffee affect the equilibrium price of tea? Explain the effect on equilibrium quantity also through a diagram.

Answer 1

Coffee and tea are substitute goods. Let us assume that the price of coffee increases. This will cause a shift in demand curve for tea to the right as shown in Fig, $D$ is the initial demand curve and S is the initial supply curve related to tea.$E$ is the initial equilibrium where supply and demand curves intersect each other. $OP$ is the equilibrium price and $OQ$ is the equilibrium quantity of tea. When the price of coffee increases, demand curve (for tea) shifts forward as indicated by $D_1$. Consequently, equilibrium price (of tea) increases from $OP$ to ${OP}_1$ and equilibrium quantity increases from $OQ$ to ${OQ}_1$.
In case price of coffee decreases, demand curve for tea would shift to the left. Consequently, new equilibrium would indicate a fall in equilibrium quantity as well as a fall in equilibrium price.