What Is a Substitution Effect?

Substitution effect refers to the impact of a certain commodity price change on the demand for substitutes under the condition of constant real income. For example, apples and pears are substitutes for each other. If the price of apples rises, but the price of pears does not change, then relative to apples, the price of pears is falling, and consumers will replace them with pears, thereby reducing demand for apples. This kind of substitution of other commodities due to the rise in the price of a certain commodity is the substitution effect. The substitution effect reduces the demand for commodities with rising prices. ^[1]

Substitution effect

When the price of a commodity changes, and the actual income remains unchanged, the commodity

Total effect and

Whether a decline in the price of a commodity leads to an increase in the number of consumers choosing the commodity depends on the substitution effect and

The concept of Slutsky's substitution effect can be used as a reference for government to formulate policies. For example, the government decided to subsidize consumers after pork prices rose. Assume that consumers consume 2.5 kg of meat per month, and the original price is 12 yuan for 1 kg of meat. The current price is increased to 14 yuan and 1 kg. If consumers can still afford 2.5 kg of meat after the price of meat rises, the subsidies to consumers should be

M = Px · x = (P`x-Px) · x = (14.00-12.00) * 2.5 = 5 (yuan).

Substitution and income effects caused by changes in commodity prices

Commodity category substitution effect and price relationship Income effect and price relationship Total effect and price relationship Demand curve shape

Normal product changes in the opposite direction.

Low-grade products change in the same direction and change in the opposite direction.

Giffen merchandise changes in the same direction and changes in the same direction