Meaning of Substitute Goods and Services
Substitute goods are two goods that could be used for the same purpose. In other words, consumer perceives substitute goods or services serving them in the same way and therefore find no need for purchasing more of such products if they purchase their substitutes (Walter, 1998). The prices of substitute goods are interdependent in that if the price of one good increases, the demand for its substitute is likely to rise. Therefore, substitutes have a positive cross elasticity of demand.
Goods can be close Substitutes, weak substitutes or perfect substitutes.
If two goods are close substitutes, there will be a high cross elasticity of demand. For instance, if the price of detergent Omo increases by 10%, the demand for Aerial detergent may rise with 20%. This translate to a cross elasticity of demand is +2.0.
If goods are weak substitutes, there will be a low cross elasticity of demand. For Example, if the price of Daily Nation increases by 10%, demand for the East African Standard may only increase 1%. This as elaborated above implies a 0.1 cross elasticity.
Two commodities or services can be termed as perfect substitutes where the utility consumers obtain from one commodity or service is the same as that obtained from the other. For example, a dollar from one FOREX company is worth exactly the same as getting a dollar from a different FOREX company. Similarly, A4 paper from Crown gives same utility as A4 paper from Kasuku. Therefore, in theory, if one good were more expensive, there would be no demand as people would buy the cheaper alternative.