In economics, a substitute good is an item consumers will purchase in lieu of another product. The demand for substitutes derives from the scarcity of preferred goods or an increasing price of preferred goods. An example of a substitute good is hamburger meat instead of prime rib. The cost of the latter will often drive demand for the former. In terms of scarcity, electric heat may substitute for gas heat. Natural gas is often less common in certain regions, making consumer more apt to purchase electric heat as the substitute.
The substitution of one good for another is typically driven by price. As consumer incomes fall, less discretionary income become available, forcing consumers to find cheaper goods. This scenario is often driven by external forces that consumers cannot overcome. Another issue that affects the price of goods and services can be inflation. During inflationary times, too many dollars are chasing too few goods. This increases the price of preferred products, causing consumers to look for cheaper substitutes.
In the case of scarce goods, consumers have somewhat more control over this factor. When preferred goods become unavailable, consumers can begin to immediately look for a substitute good. Consumers can start looking for alternate sources of the preferred good or move to an area where the item is readily available. Today’s environment allows consumers to look for goods sold from overseas suppliers to fill the need for preferred goods, making the demand for substitute goods lower than a domestic economy with few imported goods.
Consumer economic theory defines a substitute good as either perfect or imperfect. With perfect substitutes, consumers will simply purchase a product very similar in nature to the other with few reservations. A classic example is carbonated soda beverages. If Brand A is the preferred good that becomes overpriced or unavailable, consumers would most likely switch to Brand B with little thought. Therefore, the goods are seen as perfect substitutes.
Imperfect substitute goods are those that do not take the place of the preferred good, although the price is lower or the product has more availability. The classic example here is hot dog and hamburger buns. Although a consumer could theoretically make a hamburger bun work for the hot dog, it is not a perfect substitute good. Consumers are therefore less likely to purchase more hamburger buns when hot dog bun supply becomes scarce. In reality, consumers would most likely avoid purchasing hot dogs, which is the complement good to the hot dog buns.