Chapter 7.2, Problem 4R

To determine

To evaluate: The effect on the demand for P if the price of C rises.

Explanation of Solution

The substitution effect isn't just seen in customer behavior.

If the price of the product C rises then the demand is expected to increase for product P. If C’s price increases, demand will decline, resulting in increased demand for product P. The elasticity of those two products will depend on the increased demand of product P and the decline of demand of C.

When people consider product P as a replacement for product C then product C’s demand will decrease. But if demand for product C is inelastic, may be because of its brand loyalty or people like its taste, then the selling price of product P wouldn't be strongly affected.

Economics Concept Introduction

Introduction: The effect of substitution is the reduction in sales for a commodity which can be due to buyers moving to cheaper substitutes as the price increases. For several factors, a commodity may lose market share but the impact of substitution is simply a reflection of frugality. Many customers would choose a cheaper alternative if a company increases its price.