Demand Estimation

Demand Estimation

Imagine that you work for the maker of a leading brand of low-calorie, frozen microwavable food that estimates the following demand equation for its product using data from 26 supermarkets around the country for the month of April.

Option 1 

Note: The following is a regression equation. Standard errors are in parentheses for the demand for widgets.

QD       =          – 5200 – 42P + 20PX + 5.2I + 0.20A + 0.25M
(2.002)  (17.5) (6.2)    (2.5)   (0.09)   (0.21)
R2 = 0.55           n = 26               F = 4.88

Your supervisor has asked you to compute the elasticities for each independent variable. Assume the following values for the independent variables:

Q          =          Quantity demanded of 3-pack units
P (in cents)       =          Price of the product = 500 cents per 3-pack unit
PX (in cents)     =          Price of leading competitor’s product = 600 cents per 3-pack unit
I (in dollars)       =          Per capita income of the standard metropolitan statistical area
(SMSA) in which the supermarkets are located = $5,500
A (in dollars)     =          Monthly advertising expenditures = $10,000
M                     =          Number of microwave ovens sold in the SMSA in which the
supermarkets are located = 5,000

Option 2 

Note: The following is a regression equation. Standard errors are in parentheses for the demand for widgets.

QD       =          -2,000 – 100P + 15A + 25PX + 10I
(5,234)  (2.29)   (525)   (1.75)  (1.5)
R2 = 0.85           n = 120             F = 35.25

Your supervisor has asked you to compute the elasticities for each independent variable. Assume the following values for the independent variables:

Q          =          Quantity demanded of 3-pack units
P (in cents)       =          Price of the product = 200 cents per 3-pack unit
PX (in cents)     =          Price of leading competitor’s product = 300 cents per 3-pack unit
I (in dollars)       =          Per capita income of the standard metropolitan statistical area
(SMSA) in which the supermarkets are located = $5,000
A (in dollars)     =          Monthly advertising expenditures = $640

Write a four to six (4-6) page paper in which you:

  1. Compute the elasticities for each independent variable. Note: Write down all of your calculations.
  2. Determine the implications for each of the computed elasticities for the business in terms of short-term and long-term pricing strategies. Provide a rationale in which you cite your results.
  3. Recommend whether you believe that this firm should or should not cut its price to increase its market share. Provide support for your recommendation.
  4. Assume that all the factors affecting demand in this model remain the same, but that the price has changed. Further assume that the price changes are 100, 200, 300, 400, 500, 600 cents.
    1. Plot the demand curve for the firm.
    2. Plot the corresponding supply curve on the same graph using the following MC / supply function Q = -7909.89 + 79.1P with the same prices.
    3. Determine the equilibrium price and quantity.
    4. Outline the significant factors that could cause changes in supply and demand for the low-calorie, frozen microwavable food. Determine the primary manner in which both the short-term and the long-term changes in market conditions could impact the demand for, and the supply, of the product.
  5. Indicate the crucial factors that could cause rightward shifts and leftward shifts of the demand and supply curves for the low-calorie, frozen microwavable food.
  6. Use at least three (3) quality academic resources in this assignment.

Your assignment must follow these formatting requirements:

  • Be typed, double spaced, using Times New Roman font (size 12), with one-inch margins on all sides; citations and references must follow APA.

The specific course learning outcomes associated with this assignment are:

  • Analyze how production and cost functions in the short run and long run affect the strategy of individual firms.
  • Apply the concepts of supply and demand to determine the impact of changes in market conditions in the short run and long run, and the economic impact on a company’s operations.
  • Use technology and information resources to research issues in managerial economics and globalization.
  • Write clearly and concisely about managerial economics and globalization using proper writing mechanics. 

Solution

Price Elasticity of Demand (PED) is a measure of change in quantity demanded with respect to change in price of the product under considerationwhen other factors of demand like price of other goods, income and taste keptconstant. This is a very important aspect of marketing as it gives a quantitative measurement of the responsiveness of consumers to fluctuations in pricing.

Companies use past sales data, competitor data, and primary market researchto analyze the price sensitivity of customers in their target market segments.

So in this case elasticity of price is obviously negative as in most cases,becauseincrease in the price of the product will substantially decrease the demand,inthe option 1 elasticityis quite high in absolute value,increase in price is notadvisable and the elasticity of the price of competitor is quite high too . Soin my opinion it is advisable to cut the price the reasons are as follows:

  • In option 1,as we have seen price plays an important role,increase in price creates a decrease in demand,whereas;increase in the price of competitorcause a huge increase in demand. Therefore people are more interested in low price, rather than quality.So a decrease in price will guarantee aincrease in market share and hence that is advisable
  • Moreover the elasticity of the per capita income is high in positive value that implies that due to the less income of the people,they are interested in fewer prices,so cut in price will cause increase in the demand.

The implication of each calculated elasticity of option 1 is as follows:

  • Price:High absolute value ,negative ,hence people are interested in lessprice
  • Price of competitor:High positive value, hence again it is proved thatpeople are interested in less price.
  • Per capita income:It is also high, if income of people increase,they willbe more interested in the product
  • Advertise expenditure:Low, hence it is advisable to spend less on advertisement
  • Microwave expenditure: Less,so not to be considered seriously 

In the problem the supply curve is given,and keeping the other independent intervals same and by just varying the price we can plot the demand,function graph and the intersection of those two graphs will give the equilibrium price and demand.

demand = 42400:25 􀀀 42 _ p

,this the demand equation

supply = 7909:89 + 79:1 _ p

,this the supply curve

So to find the equilibrium point we have to just find out where they intersect

So, equilibrium price=284.80, equilibrium quantity=30.438

The important factors that could cause leftward or rightward shift of the demandor supply curve is as follows:

  • Rise in per capita income over certain time
  • Increase in communication means ,thereby increasing the reach of advertisement to people
  • Availability of fridge and microwave simultaneously
  • Development of an substitute of low calorie frozen food 

3 Significant factors behind change in demand and supply

As we have seen from the regression equation, the important factors that plays in the change of the demand and supply is the price and the price of the leading competitor. Now market may undergo subsequent change,due to introduction of another substitute or if the leading competitor diminishes their price,but don’t change their quality to a great extent, therefore capturing a greater portion of market share .That indicates both the long term and short impact.So plans should be made on long term process of increasing the production, thereby diminishing the price of production per unit amount,and hence diminishing the cost.That would effectively help to capture the market share.