Cross-Price Elasticity of Demand - Assignment Example

?ECON 6000 Econ 6000 Assignment Word Count: 773 (3 pages Examine the Blum and Sathaye paper introduced in the additional study materials January 18). Identify the principal and the agent. Explain how the incentives for the two could be misaligned and what the research indicated was the outcome. The principal-agent difficulty within the particular paper that is presented is space-heating and cooling energy—being reconciled with the energy being expended and the cost associated with it. 2) Examine the two annual reports introduced in the additional study materials #1 (January 18). Of the five theories of profit presented, explain two theories that might apply to Intel. Feel free to supplement your response with information from their annual report. The annual reports demonstrate that Intel is doing quite well financially. According to Png and Lehman (2007), “Intel is the dominant manufacturer of IBM-compatible microprocessors” (pp. 333). The ability to maximize one’s profit is key. One theory is that this success might have to do with the fact that, according to Png and Lehman (2007), “[t]he profit-maximizing scale of operation is where marginal revenue equals marginal cost” (pp. 203). Another possibility is that game theory might play a role because the company has exacted a certain success by banking on other factors, such as a niche market with a widening customer base. According to Png and Lehman (2007), “Game theory explains why competing sellers tend to cut price…sellers tend to compete on price, although collectively, they could raise profit by avoiding price competition” (pp. 260). 3) Describe how the shareholder wealth-maximization model of the firm on page 8 of your text relates to the concept of net present value, introduced on page 45. How do you think this relationship affects current firm decisions? Relationships affects current firm decisions based upon horizontal boundaries. According to Png and Lehman (2007), “Horizontal boundaries are defined by the scale and scope of an organization’s operations” (pp. 8). What is important to remember is that demand tapers off after awhile. According to Png and Lehman (2007), “Generally, the demand curve slopes downward” (pp. 44). In this case, since boundaries are horizontal, what we’re interested in knowing is how the firm manages its capital. If it has lots of capital and/or cash-on-hand stored up, it doesn’t need to worry as much about its overall assets since it’s got liquidity. 4) Examine the net present value problem illustrated on page 46. Assume the road commissioner is certain that the value of the land will increase to $1.2 million three years from now. If the bond stays stable at 3%, is the investment still a good idea? Show your work. Even if the bond stays stable at 3%, the value of the land increasing to $1.2 million dollars will not pay off. If one divides the profit that would be gained by 3 in order to analyze how much money per year would be made in increasing land value, the investment might not be worth the time because one has to keep in mind the interest on that money cannot be made back, nor does that take into account for inflation. Overall, for the current price, it is not a good buy. 5) Examining the case of LTCM on page 53, pay attention to the characterization of the Russian default as a “sigma 9 event.” LTCM operated for a little over 60 months. If the entire month was described as a “sigma 9” event, what is the possibility of that event happening in any given month? Explain what you think might be problems in trying to estimate the likelihood of events like the Russian default. The chances of a sigma 9 default happening in LTCM on any given month depends upon the degree to which the company is trusted. An issuer will not back some organization it cannot trust. According to Png and Lehman (2007), “A major for investors is the possibility that the issuer will default. Issuers, however, have better information about their own financial condition and likelihood of default” (pp. 366). 6) Apple, noticing the recent popularity of a competitor, RoboGizmo, to its recent product, the iDoodad, has decided to decrease the price somewhat to stimulate demand. Initially Apple sold 300,000 units of the iDoodad a month at $400 dollars. After lowering the price to $350, Apple saw its quantity sold increase to 325,000 units. What is the arc price elasticity of the iDoodad in this case? First, one must calculate the percent change in price. The percent change in price is [$400 - $350 / $400], which is equal to 12.5%. Then, one must calculate the price elasticity of demand. One divides the percentage of change in quantity [325,000 – 300,000/325,000 = 7.7%] by the percent change in price, which is 12.5%. This leads us to 7.7% divided by 12.5%. The result is 0.62%. Every 1% decrease in price, therefore, produces a 0.62% increase in quantity demanded. 7) Assume the iDoodad has a constant production cost of $100 per unit, regardless of the number of units that could be reasonably produced. How would you describe the elasticity of the iDoodad? Should Apple increase the price or continue reducing the price for the iDoodad? Explain your response. The iDoodad can still continue reducing the price of the iDoodad until it reaches $150 dollars per unit, because the price elasticity would still be 0.18% (not negative). This is the most reasonable price that Apple can keep without having to shut down its production of the iDoodad. One divides 7.7% by 43% (the change in price from $350 – 200 / $350), and gets the resulting elasticity of 0.18%. Apple can continue reducing the price up until about $150 dollars per unit, at which point reducing the price further would result in financial losses for the company. 8) Referring back to questions 6 and 7, after Apple reduced the price of the iDoodad to $350, the executives noticed that the RoboGizmo stayed at the same price, and its sales decreased from 200,000 units a month to 180,000 units. What is the cross-price elasticity between the iDoodad and the RoboGizmo? How would you characterize the relationship between these two goods? The way to calculate the Cross-Price Elasticity of Demand (CPEoD) is the utilization of the formula of the percent change in the quantity of demand for RoboGizmo (10%) divided by the percent change in price for the iDoodad product (12.5%). With a figure of 0.8 as the result, since it’s less than zero, the two goods are complements—meaning they have about equally the same price although that doesn’t say anything about quality. REFERENCES Png, I., & Lehman, D. (2007). Managerial economics. US: Wiley-Blackwell. Read More