Difference between Substitution Effect and Income Effect

The impact of a change in the price of a commodity can be divided into two effects; viz., Substitution Effect and Income Effect. 

What is Substitution Effect?

The term substitution effect refers to the practice of substituting one commodity with another when it becomes comparably less expensive. When a particular commodity’s price decreases, it becomes comparatively less expensive than its substitute (assuming no change in the price of the substitute). In turn, this increases demand for the given commodity. For instance, if the cost of a particular good, like Sprite, decreases while the cost of its substitute, like Mountain Dew, remains constant, Sprite will become comparably less expensive and replace Mountain Dew, which ultimately results in increasing demand for Sprite.

What is Income Effect?

The term income effect refers to the effect on demand that occurs when a consumer’s real income changes as a result of a change in the price of a given commodity. The consumer’s purchasing power (real income) increases when the price of the given commodity decreases. As a result, consumers can spend the same amount of money on more of the given commodity. For instance, a decrease in the price of a certain good (let’s say Coke) will increase the consumer’s purchasing power and allow him to purchase more Coke with the same amount of money.

Difference between Substitution Effect and Income Effect

Basis	Substitution Effect	Income Effect
Meaning	The practice of substituting one commodity with another when it becomes comparably less expensive is known as Substitution Effect.	The effect on demand that occurs when a consumer’s real income changes as a result of a change in the price of a given commodity is known as Income Effect.
Cause	It is caused by a change in the price of the commodity with respect to the price of substitute commodities.	It is caused by a change in the consumer’s purchasing power when there is a change in the price of the given commodity.
Type of Good	Substitution effect works for both normal and inferior goods.	Income effect only works for normal goods.
Result	Due to substitution effect, a consumer replaces the expensive product with its substitute which is available at a lower price.	Due to income effect, when the price of a commodity falls, a consumer buys more of it as it increases his purchasing power.
Availability	Substitution effect works when there is at least one close substitute of the given commodity available in the market.	Income effect works when a large number of the same commodity is available in the market.
Reflected by	Substitution effect is reflected by the movement along the price-consumption curve.	Income effect is reflected by the movement along the income-consumption curve.