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Demand Analysis

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  • 1.
    • Managerial Economics
    • Douglas - “Managerial economics is .. the application of economic principles and methodologies to the decision-making process within the firm or organization.”
  • 2.
    • Salvatore - “Managerial economics refers to the application of economic theory and the tools of analysis of decision science to examine how an organisation can achieve its objectives most effectively.”
  • 3.
    • Positive Economics:-
    • Derives useful theories with testable propositions about WHAT IS.
    • Normative Economics:-
    • Provides the basis for value judgements on economic outcomes.WHAT SHOULD BE
  • 4. Scope of Managerial Economics
    • Utility analysis
    • Demand and supply analysis
    • Production and cost analysis
    • Market analysis
    • Pricing
    • Investment decisions
    • Game theory
  • 5. Basic problems of an economy
    • What to produce( Choice)
    • How to produce ( Technology)
    • Whom to produce ( Distribution)
  • 6. Fundamental Concepts Managerial Economics
    • Marginal Principle
    • Opportunity cost principle
    • Incremental Principle
    • Discount Principle
    • Time Perspective
  • 7. Demand Analysis
    • Demand –
    • Desire + ability to pay + willingness to pay
    • Demand is relative term –
    • Price
    • Time
    • Place
  • 8. Determinants of demand
    • Price
    • Income
    • Taste, preference and fashion
    • Prices of related goods
    • Government policy
    • Custom and tradition
    • Advertisement
  • 9. Law of demand
    • If other things remain constant, when price increases demand contracts and when price decreases demand expands. Price and demand are inversely proportionate.
    • D = a - bP
  • 10. Why demand curve slopes downwards
    • Law of diminishing marginal utility
    • Income effect
    • Substitution effect
    • Multiplicity of uses
  • 11. Market Demand Curve
    • Shows the amount of a good that will be purchased at alternative prices.
    • Law of Demand
      • The demand curve is downward sloping.
    D Price Quantity
  • 12. Exception to the law of demand
    • Giffen Goods
    • Prestigious goods
    • Buyers illusions
    • Necessary goods
    • Brand loyalty
  • 13. Elasticity
    • Elasticity is a measure of responsiveness of one variable to another variable.
    • Can involve any two variables.
    • An elastic relationship is responsive.
    • An inelastic relationship is unresponsive.
  • 14. Types of Elasticity of demand
    • Price Elasticity of demand
    • Income elasticity of demand
    • Cross Elasticity of demand
    • Promotional Elasticity of demand
  • 15. Price elasticity:  p =%  Q/%  P
    • Causality: denominator numerator!
    • An elastic response is one where numerator is greater than denominator.
    • i.e., %  Q>%  P so E p 
      • Imagine extreme example.
    • An inelastic response is one where numerator is smaller than denominator.
    • i.e., %  Q<%  P so E p 
      • Again, imagine extreme example.
  • 16. Look at the Extremes
    • Perfectly Elastic D
    • E p  infinite
    • Perfectly Inelastic D
    P Q P Q E p  0 D D
  • 17. Relatively Elastic vs. Inelastic Demand Curves Q 1 Q 2 Q 2 ’ P 1 P 2 D’ D D’ is relatively more elastic than D P Q
  • 18. Point Elasticity Formula
    • Point elasticity
      • Point elasticity is responsiveness at a point along the demand function
    • E p  Q/Q 1
    •  P/P 1
    • simplifying:
    • E p  Q/  P)* P 1 /Q 1
    • Price (Rs.)
    Q Q 1 P 1 D
  • 19. Point Elasticity Formula
    • Point elasticity
      • Point elasticity is responsiveness at a point along the demand function
    • E p  Q/Q 1
    •  P/P 1
    • simplifying:
    • E p  Q/  P)* P 1 /Q 1
    • Price (Rs.)
    Q Q 1 P 1 D
  • 20. Example: Q=56-0.002*P
    • Point elasticity
    • E p  Q/  P)* P 1 /Q 1
    • Suppose P=17000
    • Q=56-0.002*17000
    • Q=56-34=22
    • Plug into equation gives:
      • E p  -0.002)* 17000 /22
      • E p =-34/22=-1.54
    • Price (Rs)
    Q 22 17k D
  • 21. Arc Elasticity Briefly, arc elasticity is simply an average elasticity along a range of the demand curve.
  • 22. Arc Elasticity Formula
    • Arc elasticity:
      • Responsiveness along a range of D. function
    • E p  Q/((Q 1 + Q 2 )/2)
    •  P/((P 1 + P 2 )/2)
    • simplifying:
    • E p  Q/  P)*((P 1 +P 2 )/(Q 1 +Q 2 ))
    • Price ($)
    Q Q 2 P 2 P 1 Q 1 Avg. responsiveness D
  • 23. Example Q=56-0.002*P
    • Arc elasticity
    • E p  Q/  P)*((P 1 +P 2 )/(Q 1 +Q 2 ))
    • Look at P range 16k - 17k
    • Q=56-0.002*17000
    • Q=56-34=22
    • Plug into equation gives:
      • E p  -0.002)*(33000/46)
      • E p =-66/46=-1.43
    • Price ($)
    Q 22 17k D 24 16k
  • 24. Factors influence Price elasticity of demand
    • Nature of commodity
    • Availability of substitute
    • Multiplicity of uses
    • Habit
    • Proportion of income spent
    • Price range
  • 25. Managerial Applications of Price elasticity of demand
    • Pricing Decision
    • Fiscal policy
    • Labour market
    • International trade
  • 26. Income Elasticity of Demand
    • Recall demand function is:
      • Q=f(P, I,P related ,Tastes,Buyers,Expectations ... )
    • Change in I causes shift in demand.
    • Size of shift depends on income elasticity.
    • E I  Q/  I
    • Focus again on point formula.
    • Value of E I determines type of good.
  • 27. Values for Income Elasticity (   )
    • Sign indicates normal or inferior
    •  E I  >0 implies normal good.
    • E I <0 implies inferior good.
    • Normal goods may be necessity or luxury .
      • If E I >1 then this is luxury (responsive to income).
      • If 0<E I <1 then this is necessity (unresponsive to income).
  • 28. Cross Price Elasticity (E XY )
      • Q X =f(P X , I,P Y ,Tastes, Buyers,Expectations ... )
    • Change in P Y causes shift in demand for X.
    • Size of shift depends on cross-price elasticity.
    • E XY  Q X /  P Y
    • Sign indicates relationship between two goods
    •  E XY >0 implies goods are substitutes.
    • E XY <0 implies goods are complements.
  • 29. OBJECTIVES OF SHORT TERM DEMAND FORECASTING
    • Production planning
    • Evolving sales policy
    • Fixing sales targets
    • Determining price policy
    • Inventory control
    • Determining short-term financial planning
  • 30. OBJECTIVES OF LONG-TERM DEMAND FORECASTING
    • BUSINESS PLANNING
    • MANPOWER PLANNING
    • LONG-TERM FINANCIAL PLANNING
  • 31. METHODS OF DEMAND FORECASTING
    • Survey methods :
    • Consumer interviews
    • Opinion poll
    • Experts opinion
    • End-use method
    • Statistical methods:
    • Trend Analysis
    • Regression Analysis
  • 32. Market Supply Curve
    • The supply curve shows the amount of a good that will be produced at alternative prices.
    • Law of Supply
      • The supply curve is upward sloping
    Price Quantity S 0
  • 33. Supply Shifters
    • Input prices
    • Technology or government regulations
    • Number of firms
    • Substitutes in production
    • Taxes
    • Producer expectations
  • 34. The Supply Function
    • An equation representing the supply curve:
    • Q x S = f(P x , P R ,W, H,)
      • Q x S = quantity supplied of good X.
      • P x = price of good X.
      • P R = price of a related good
      • W = price of inputs (e.g., wages)
      • H = other variable affecting supply
  • 35. Change in Quantity Supplied 20 10 B A 5 10 A to B : Increase in quantity supplied Price Quantity S 0
  • 36. Change in Supply S 1 8 7 S 0 to S 1 : Increase in supply 6 Price Quantity S 0 5
  • 37. Producer Surplus
    • The amount producers receive in excess of the amount necessary to induce them to produce the good.
    Price Quantity S 0 Producer Surplus Q * P *
  • 38. Market Equilibrium
    • Balancing supply and demand
      • Q x S = Q x d
    • Steady-state
  • 39. Equilibrium Price and quantity Price Quantity S D 8 7
  • 40. If price is too low... Price Quantity S D 5 6 12 Shortage 12 - 6 = 6 6 7
  • 41. If price is too high… Price Quantity S D 9 14 Surplus 14 - 6 = 8 6 8 8 7