Question

the market for commodity X is in equilibrium. Explain how change in price of the substitute commodity Y (related to commodity-X) would effect the market equilibrium with respect to commodity X?

Answer 1

Dear student,
The effect of the change in the price of substitute good can be understood as follows:

1. Rise in price of substitute good: A rise in the price of the substitute good implies that the consumers shift their demand from the substitute good towards the concerned good. That is, the demand rises. With supply remaining the same, this suggests that at the initial price there exists excess demand. This leads to a rise in the price of the commodity till the new equilibrium is reached, where the new demand curve intersects the supply curve. At the new equilibrium, both the price as well as the quantity have risen.
2. Fall in the price if substitute good: A fall in the price of the substitute good implies that the consumers shift their demand from the concerned good towards the substitute good. That is, the demand falls. With supply remaining the same, this suggests that at the initial price there exists excess supply. This leads to a fall in the price of the commodity till the new equilibrium is reached, where the new demand curve intersects the supply curve. At the new equilibrium, both the price as well as the quantity have fallen.