Chapter 3 Quantitative Demand Analysis
. The Elasticity Concept
Own Price Elasticity Elasticity and Total Revenue Cross-Price Elasticity Income Elasticity
II. Demand Functions
III. Regression Analysis
The Elasticity Concept
How responsive is variable “G” to a change in variable “S”
If EG,S > 0, then S and G are directly related.
If EG,S < 0, then S and G are inversely related
If EG,S = 0, then S and G are unrelated
The Elasticity Concept Using Calculus
An alternative way to measure the elasticity of a function G = f(S) is
If EG,S > 0, then S and G are directly related If EG,S < 0, then S and G ...view middle of the document...
Cross-Price Elasticity of Demand
If EQX,PY > 0, then X and Y are substitutes.
If EQX,PY < 0, then X and Y are complements
Predicting Revenue Changes from Two Products
Suppose that a firm sells to related goods. If the price of X changes, then total revenue will change by:
If EQX,M > 0, then X is a normal good
If EQX,M < 0, then X is a inferior good.
Uses of Elasticities
Pricing. Managing cash flows.
Impact of changes in competitors’ prices.
Impact of economic booms and recessions.
Impact of advertising campaigns. And lots more!
Example 1: Pricing and Cash Flows
According to an FTC Report by Michael Ward, AT&T’s own price elasticity of demand for long distance services is -8.64.
AT&T needs to boost revenues in order to meet its marketing goals.
To accomplish this goal, should AT&T raise or lower its price?
Answer: Lower price!
Since demand is elastic, a reduction in price will increase quantity demanded by a greater percentage than the price decline, resulting in more revenues for AT&T.
Example 2: Quantifying the Change
If AT&T lowered price by 3 percent, what would happen to the volume of long distance telephone calls routed through AT&T?
Answer: Calls Increase! Calls would increase by 25.92 percent!
Example 3: Impact of a Change in a Competitor’s Price
According to an FTC Report by Michael Ward, AT&T’s cross price elasticity of demand for long distance services is 9.06.
If competitors reduced their prices by 4 percent, what would happen to the demand for AT&T services?
Answer: AT&T’s Demand Falls!
AT&T’s demand would fall by 36.24 percent!
Interpreting Demand Functions
Mathematical representations of demand curves.
Law of demand holds (coefficient of PX is negative).
X and Y are substitutes (coefficient...