Demand vs. Quantity Demanded: definitions & application

1. What is the definition of Demand? Quantity Demanded (Q)? How are they different? Note: Changes in the price a company charges do not change demand for its product.They change quantity demandedi.e., the units of the product demanded by customers. Changes in Qin response to changes in P represent movements along a company's demand curve.
2. Using Scenario B.1, plot demand curves for Weekday and Weekend (two P, Q points for each curve), using P₁=$30; P₂=$60. Note:Make sure that both points are from the same demand curve. Based on your plotted demand curves, what can you say about Weekday vs. Weekend demand over the price range $30 to $60? Which daily demand is greater at any given price?Which demand curve has greater elasticity when expressed in absolute value?
3. What causes a demand curve to shift? List as many factors as you can. What is the direction of the relationship? For example, increasing incomes cause demand curves to shift up (increase).
4. What affects the quantities listed in the column "Market Demand" (in the Market Demand tab of the simulation)? Note: "Market Demand" is a misnomer in that it includes not only changes in demand (i.e., shifts of the demand curve), but also movements along Universal's demand curve (i.e., changes in quantity demanded), which is not "demand." The Market Demand column is affected by prices charged by Universal, which cause movements along Universal's demand curve, and all other factors that affect demand, which shift universal's demand curve.Examples: price charged by competitor, seasonality, changes in population, changes in Orlando's attractiveness as a travel destination, changes in incomes of renters and potential renters, etc. As you experiment with the simulation, observe changes in the column labeled Market Demand. How can you separate the amount that is movement along Universal's demand curve from the amount that represents change in the market demand curve?

Price Sensitivity of Demand (Elasticity)

1. Price elasticity of demand summarizes price sensitivity with one number. Define it and show the formula for computing it.Explain its usefulness in business?
2. Elasticity is all about substitutes. The more substitutes there are for your product, the higher (in absolute value) will be the price elasticity of your product. If you want to have pricing power with your product (i.e., the ability to raise its price without losing too much Q), you must reduce substitutes. That is, your customers must not consider other products as reasonable substitutes for yours; yours must seem irreplaceable to them.What actions can a company take to make its product less replaceable? Hint:improve quality, features, design elegance, brand cachet, etc.
3. Why is the price elasticity of a specific brand greater than the elasticity for the category? Example: elasticity of HP laptops is greater than that of laptops in general.
4. Explain the reason for and the direction of change in the price elasticity of a company's product due to changes in its own price, competitor's price, price of a complement, availability of new innovative products, etc.
5. How are the differences in price elasticity between weekday and weekend renters a proxy for the difference between business and leisure renters? Refer to the Market Research tab in the pricing simulation to answer. Compare the price elasticities of business vs. leisure renters using your argument that weekday and weekend are proxies for business and leisure and referring to the price elasticity tables provided in Course Resources. Does one group have greater elasticity at every price? Why?
6. Within a given Scenario, the pricing simulation gives the same results every run.That is, if you input the same set of monthly prices on runs 1,2,3, etc., all the metrics (orders, capacity utilization, revenues, profits, etc.) will be identical from run to run. How can you use this knowledge to estimate Universal's price elasticity of demand regardless of monthly changes in demand and in the competitor's price? Demonstrate your method by calculating weekday price elasticity in Nov at a price of $50 (mid-point) using any Scenario. Follow the steps below with scenario B.
   1. Using Scenario B.1, compute November daily weekday orders at P=$48. Enter exact number (obtain exact number by hovering over bar graph in fleet size tab of simulation).
7. Using Scenario B.1, compute November daily weekday orders at P=$52. Enter exact number (obtain exact number by hovering over bar graph in fleet size tab of simulation).
8. Using the P, Q data from the previous two steps, compute weekday price elasticity for November. Enter the number to two decimal places. Make sure the sign is correct.
9. The price elasticity you calculated is approximate.It is most accurate at what price?
10. Why is it so difficult to estimate price elasticities in the real world?What are some of the obstacles?

Supply, Costs, and Market Equilibrium

1. Get familiar with the Universal's cost structure: Variable costs are always $15 per car per day.Variable means they only occur when that car is rented. Fixed costs consist of two categories: inventory management costs, which are $343 per month per car in the fleet regardless of whether it is rented. They become "quasi-variable" in the sense that they can be changed every quarter by changing fleet size. "Other fixed Costs" (building, salaried employees, insurance, etc.) cannot change throughout the simulation year. The Net Income tab in the simulation has four views: Total, Per Vehicle (in the fleet) per month, Per Rented Car, and Percentages. Total and "per vehicle per month" are monthly numbers. "Per rented vehicle" uses daily numbers. Make sure you know which you are working with. You need to have all your numbers in the same time unitsdaily, monthly, annual.
2. Use the cost data to calculate breakeven price. Pricing below the breakeven price insures you will have losses instead of profits. Does charging the breakeven price guarantee that you will break even? You can choose P, but then you cannot also choose Q. The market dictates that. Alternatively, you could target a Q, but you would need to find a P that would deliver it. You cannot specify both.
3. What does Universal's Supply curve look like when the fleet size is fixed? How should Universal decide how many cars to offer for rent at any given price? Hint: compare with short run analysis of whether to continue to operate or to shut down.If you cover marginal costs, you operate, because you have a contribution margin to help cover fixed costs, which cannot be reduced in the short run.
4. Universal's variable cost to rent a car is $15. Assume the fleet size is fixed at 21,666.How many cars would you be willing to rent at a price of $10? $20?$50? That is, how many would you offer to rent; not the number that would be rented at those prices. Explain your thinking behind these answers.
5. Use the above answers to describe Universal's supply curvethat is, what is the quantity supplied at various prices? Graph the supply curve, showing numbers for P and Q.Show enough points to completely define the supply curve.
6. Universal's fixed costs are $4.78M per month for "other fixed costs" (e.g., building rent, manager salaries, etc.) regardless of fleet size. Vehicle inventory management costs are fixed at $7.43M per month for a fleet of 21,666 cars.With the 21,666 fleet, total fixed costs for the fleet per month are $4.78M + $7.43M = $12.21M? What are total fixed costs per car per month? Per car per day? Use 30.4 days per month. Record the costs to two decimal places.
7. With a fleet of 21,666 cars, what is the lowest price Universal could charge that would cover all its costs? Explain. Enter this price (i.e., that just covers all costs) as the weekday and the weekend price for Nov in Scenario B.1. Check the Net Income tab. Were all costs covered? If not, what happened?

Pricing Strategy & Tactics

1. A company's competitive strategy (including pricing) depends on the price elasticity of its products. Companies with costs similar to the industry average can still make high profits if they can sell their products at above average prices. Companies that cannot command premium prices can still make high profits if they have low costs. Give an example of each. Explain why the company's price elasticity is high or low.
2. Explain conceptually why revenues increase for price increases in the inelastic range and decrease for price increases in the elastic range.
3. How does knowing the relationship of revenue and elasticity affect your pricing decisions?
4. Price where MR=MC to maximize profits. Increase production when MR>MC until MC increases to equal MR or MR falls to equal MC.What would cause MC to rise with increasing Q? MR to decline with increasing Q? Note: If MR>MC, the next unit you sell will generate a margin that is available to help cover fixed costs or go toward profit. If MR
5. In the case of Universal, you can't increase production in short run because fleet size is fixed, but you can increase price any time and should do it if MR>MC. For price increases in the inelastic range, MR>0 (remember that Rev, which is PxQ, increases with price increases when demand is inelastic). In the car rental example, MC < 0 any time price increases, because fewer cars are rented at the higher price, so fewer "$15 variable costs per rented car" are incurred. The implication is that you should keep increasing price in inelastic range because revenues are increasing while costs are decreasing. In the elastic range MR < 0, which would seem to indicate that you should not increase price; however, MC<0 for all price increases. Because they move in opposite directions in terms of contributing to profits (decreasing revenues reduce profits, but decreasing costs increase them), you must test how far into the elastic range you should raise price before the revenue loss exceeds the cost saving.
6. Finding the price that maximizes contribution margin is the same as finding the profit-maximizing price. Explain why.
7. If comparing net profit (from the Net Income tab) produces the same answer for profit maximizing price as comparing contribution margins (CM), why would you use CM instead of just running the simulation for prices in the elastic range and choosing the price that maximizes profit? What useful info comes from CM analysis?
8. If you want to test a range of prices to find the one that maximizes contribution margin, and you want the designated price range to be guaranteed to include the profit maximizing price but be as narrow as possible, what is the lowest price you need to test?
9. What is the reason for doing CM analysis with a wide price grid first, followed by a narrow grid?
10. Conduct a CM analysis with Scenario B.1's November data to determine the profit maximizing prices for weekdays and weekends. Explain your process for finding the price that maximizes contribution margin. How do you know that you have found the price that maximizes contribution margin? (i.e., that no lower or higher price would produce a greater contribution margin).Show your data in a spreadsheet (use the spreadsheet templateFinding Optimal Price Using Contribution Marginlocated in Course Resources) and explain each column of the spreadsheet
11. Redo the CM analysis with Scenario B.2's November data. Compare the profit maximizing prices from the two Scenarios.Explain any differences.

Coordinating Pricing and Fleet Size Decisions

1. Under what circumstances does the profit maximizing price leave unrented capacity? Copy relevant tabs to clipboard and then an excel spreadsheet so you can evaluate the circumstances. Why wouldn't you reduce price to rent your unrented cars?
2. Under what circumstances would Universal have unfilled orders? Prove that unfilled orders always mean that you have not maximized profits.
3. In Scenario B.1, when you set your prices to maximize profits in Dec, how many cars are unrented for that month? What is the vehicle inventory management cost for those unrented cars for the month of December? Note: the fleet size tab shows daily orders for a weekday and a weekend day. Fleet size minus daily orders equals unrented cars for that day. There are about 21.67 weekdays in a month and 8.67 weekend days in a month. How does the total cost of unrented cars in Dec. compare with your profits for December?
4. Using Scenario B.1, if you were being measured solely by January's results, what fleet size would you choose for January? Why? What price would you charge?
5. Using Scenario B.1, after you adjust fleet size in January, compare the margins (gross margin, operating margin, and pre-tax profits) for December and JanuaryTotal and Per Rented Car. What do you conclude? How does this information affect your strategy?
6. In Nov and Dec, Universal had many unrented cars when it charged the optimal price. That optimal price is based on demand and internal costs. Why might you want to reduce fleet size below the number of cars you could rent at those optimal prices? (Hint: think about why you raised price even when revenues were decreasing when you calculated Nov and Dec optimal prices. How is reducing fleet below what you could rent at the optimal price similar?)
7. Explain how to determine optimal fleet sizes and prices using the approach demonstrated in the "optimal fleet size spreadsheet" and explained in the Panopto recording on the Fleet Size Decision. Conduct your own analysis with Scenario B.2. Explain your strategy and calculations. Report and discuss the results.

Price Discrimination

1. Define indirect price discrimination. Explain how it differs from direct price discrimination.Explain the key assumptions for indirect price discrimination to work. Explain how charging a different price on weekdays vs weekends is an example of indirect price discrimination.
2. Using Market Size data from the Market Research tab in the simulation, demonstrate that the requirements for indirect discrimination to work are met.
3. Compute the profits Universal gains by using indirect price discrimination. Show and explain your work. Use any Scenario; clearly indicate which one and show month(s) and prices that produced the results.
4. Despite the term "discrimination", which generally carries a negative connotation, all customers benefit from indirect price discrimination. Explain the benefits to both leisure and business renters.

Competitor Strategy

1. For your best run using Scenario B.1, keep monthly track of the competitor's prices, unit sales, and profits. How do they compare with Universal's results on each measure?
2. Based on your observations of the competitor in Scenario B.1, what is his strategy? How does it compare with yours? Why might a competitor implement such a strategy?
3. How did the competitor's strategy in ScenarioB.2 affect your strategy and results? Note: although you may not have consciously considered the competitor's actions as you made price and fleet size decisions, his prices affected the demand curve you faced.That demand curve affected your pricing decisions. How did the competitor's behavior affect your prices and profits? (Hint: compare prices and profits from Scenario B.1 to B.2).
4. Most people tend to react to a competitor undercutting their price by matching him so as not to lose market share. What happened when you tried that in the pricing scenario (if you didn't try it before, try it now)? Explain why it wasn't a good idea. Note:use either Scenario B.1 or B.2 for this question.

Biblical Perspective Questions on Economic Issues

1. Explain how the free enterprise system aligns with man's characteristics and callingi.e., created in God's image and given the dominion mandate (Genesis 1:26-28).
2. How does the free enterprise system harness self-interest to meet the needs of others?
3. How does the free enterprise system police bad behavior?
4. What are the biblical criteria for helping people who are struggling financially?
5. What is the definition of market failure?
6. Renewable energy a market failure? The case of Solyndra. Some politicians are calling for more solar energy production and less fossil fuel production. Don't markets allocate resources to the highest value uses via price signals?Have markets failed, or are politicians seeking something other than highest value uses?
7. Why does central planning by the government always underperform the free market in terms of maximizing wealth creating transactions?
8. What are examples of market failure? What criteria would you use to evaluate proposed solutions?
9. Is the labor market an example of market failure? If so, what is failing? You must point a failure in the structure or process. Disappointment with results (e.g., too many unemployed or low wage workers) is not by itself evidence of the labor market failing, at least as an economist would define the term "market failure."
10. People who believe labor markets are failing or are unhappy with the results often support imposing a minimum wage on businesses that is at least a "living wage." Using economic principles, predict the effects of increasing the federal minimum wage from its current level ($7.25) to $15/hr. overnight.Predict effects on total employment; differential effects by type of worker; and the effects on prices, profits, and investment for different types of businesses.
11. Even when gov't intervenes to remedy legitimate market failure, it risks gov't failure that exceeds the cost of the market failure. Why? Here are a few reasons: a) bureaucratic solutions are inherently costly to administercollect data and enforce rules which mkt does automatically; b) politicians and gov't officials feel responsible for fixing problems so they are predisposed to "do something" even if doing nothing is better; c) most education and training for gov't and public policy focuses on gov't rather than market-based solutions to problems; d) politicians and gov't leaders are susceptible to influence from special interests (revolving door; or outright corruption).
12. Humans are born as sinners and susceptible to corruption. Power corrupts. Therefore, laws and institutions should be designed to limit the power of one person over others. T/F discuss.

https://forio.com/simulate/harvard/pricing/simulation/

https://hbsp.harvard.edu/coursepacks/1080259