Running Head: Economics Demand Estimation

Running Head Economics Demand Estimation1economics Demand Estimat

Analyze the demand estimation model provided for a low-calorie frozen food product, including calculating elasticities (price, income, cross-price, and advertising), interpreting their implications for short-term and long-term pricing strategies, and evaluating whether the firm should reduce prices to increase market share. Additionally, plot the demand and supply curves using specified prices and discuss factors influencing shifts in demand and supply.

Paper For Above instruction

Understanding the dynamics of demand and supply is integral for managerial decision-making, especially in competitive markets such as the frozen food industry. The demand estimation model provided offers crucial insights into how various factors influence consumer purchasing behavior and how firms might optimize their pricing and marketing strategies based on elasticity measures. This paper will analyze the demand function, compute relevant elasticities, interpret their implications for the firm's strategic decisions, and examine factors that cause shifts in the demand and supply curves.

Demand Estimation and Elasticity Calculations

The provided regression equation for the quantity demanded (QD) of the product is:

QD = -3, P + 30A + 75PX + 10Y

where: P = price per unit in cents, A = advertising expenditures in dollars, PX = competitor’s price in cents, Y = per capita income in dollars.

Given the specific values: P = 300 cents, A = $750, PX = 200 cents, Y = $10,000, the demand function becomes:

QD = -3(300) + 30(750) + 75(200) + 10(10,000)

QD = -900 + 22,500 + 15,000 + 100,000

QD = 136,600 units

This calculated quantity demand serves as the basis for elasticity calculations.

Price Elasticity of Demand (E_P)

The price coefficient from the demand function is -3, indicating that a 1-cent increase in price reduces quantity demanded by 3 units. To compute the price elasticity, we use the formula:

E_P = (∂Q/∂P) * (P/Q)

Here, ∂Q/∂P = -3, P = 300, Q = 136,600, thus:

E_P = -3 * (300 / 136,600) ≈ -0.0066

This indicates that demand is highly inelastic with respect to price; a 1% increase in price would decrease quantity demanded by approximately 0.0066%, a negligible effect.

Income Elasticity of Demand (E_Y)

The coefficient for Y is 10, which signifies that for each additional dollar of income, demand increases by 10 units. Using the elasticity formula:

E_Y = (∂Q/∂Y) (Y/Q) = 10 (10,000 / 136,600) ≈ 0.732

This positive value suggests that the product is a normal good, and demand increases with income, with a relatively elastic response.

Cross-Price Elasticity (E_PX)

The coefficient for PX is 75, indicating that a 1-cent increase in the competitor’s price increases demand by 75 units. The elasticity is:

E_PX = 75 * (200 / 136,600) ≈ 0.1097

Thus, demand shows a slight positive responsiveness to competitor pricing, implying the products are weak substitutes or that consumers view them as somewhat interchangeable.

Advertising Elasticity (E_A)

The coefficient for A is 30, representing that each dollar spent on advertising increases demand by 30 units. The elasticity computes as:

E_A = 30 * (750 / 136,600) ≈ 0.1645

This suggests advertising has a modest inelastic effect on demand, and increased advertising expenditures can be a cost-effective way to slightly boost sales.

Implications for Business Strategy

The calculated elasticities highlight that demand for the product is highly inelastic regarding its own price (|E_P| ≈ 0.0066), indicating that reducing prices may not significantly increase demand. Therefore, sequentially lowering prices to gain market share may be inefficient and could diminish profitability since sales volume would not proportionally increase.

Conversely, the positive and somewhat elastic income elasticity (E_Y ≈ 0.732) indicates that demand is sensitive to economic growth. In prosperous periods, demand could rise, allowing the firm to maintain or even increase prices without losing significant sales volume.

The slight positive cross-price elasticity (≈ 0.1097) suggests some substitution effect with competitors, but it is not strong enough to justify aggressive pricing strategies based on competition prices alone.

Advertising elasticity indicates that future marketing investments may contribute marginal sales increases, especially in a context where demand is nearly inelastic concerning price. Strategies should focus on reinforcing product value through branding and quality rather than reducing prices.

Recommendations

Given the minimal impact of price changes on demand, the firm should avoid cutting prices solely to increase market share, as it would likely erode profit margins without significantly expanding sales volume. Instead, investments in advertising and product differentiation can better sustain demand growth.

Furthermore, understanding that demand responds positively with income, management should explore target segments with rising disposable incomes and consider marketing tailored to these demographics during economic upswings. Maintaining stable prices during downturns might preserve margins, while during growth periods, subtle price increases could prove profitable.

Long-term strategies should also include improving product features or offering complementary services that elevate perceived value, potentially increasing demand elasticity and enabling functional price increases without sacrificing market share.

Graphical Interpretation: Demand and Supply Curves

Using specified prices (100, 200, 300, 400, 500, 600, 700, and 800 cents), the demand curve can be estimated from the demand function:

Q_D = -3P + 22,500 + 15,000 + 100,000

At each price, demand can be approximated, plotting the resulting points will display a downward-sloping demand curve (as P increases, Q_D decreases). Similarly, the supply curve is given as Q_S = -7,909.89 + 79.0989P.

At each specified price, calculate Q_S:

• P = 100 cents: Q_S = -7,909.89 + 79.0989*100 ≈ 1,699 units
• P = 200 cents: Q_S ≈ 9,399 units
• P = 300 cents: Q_S ≈ 17,099 units
• P = 400 cents: Q_S ≈ 24,799 units
• P = 500 cents: Q_S ≈ 32,499 units
• P = 600 cents: Q_S ≈ 40,199 units
• P = 700 cents: Q_S ≈ 47,899 units
• P = 800 cents: Q_S ≈ 55,599 units

Plotting these points reveals the intersection point where demand equals supply, approximating market equilibrium near P ≈ 620 cents and Q ≈ 41,000 units, confirming the importance of understanding the external factors influencing shifts in the curves for strategic adjustments.

Factors Affecting Shifts in Demand and Supply

Several factors influence the shifting of demand and supply curves. Demand shifts rightward with increased consumer income, enhanced consumer preferences, and decreases in prices of complementary goods. Conversely, demand shifts leftward from decreased income, negative consumer preferences, or rise in prices of substitutes.

Supply shifts rightward due to technological advancements, reductions in input costs, an increase in the number of producers, or favorable government policies. Leftward shifts occur due to increased input costs, stricter regulations, or reduced number of suppliers.

Understanding these factors enables managers to anticipate market changes and to formulate proactive strategies such as marketing campaigns, product innovation, or cost management.

Conclusion

In conclusion, the demand analysis indicates that the firm's product demand is largely insensitive to price changes, but responsive to income variations and minor changes in advertising. Therefore, the company should favor strategies focusing on marketing, product value enhancement, and observing economic conditions rather than price reductions for gaining market share. Plotting demand and supply and understanding their shifts allow more informed and strategic managerial decisions to optimize pricing, production, and marketing efforts.

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