We say that economics is the science which studies the way people use scarce and limited resources to satisfy the unlimited human wants. Microeconomics, as a branch of economics, focuses on the individual section of the economy and hence isolates the rest part of the economy. It, thus, takes into consideration the demand, supply and the prices of individual goods. It concentrates on the behavior and activities of the consumer and producers separately.
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Own price demand elasticity is the responsiveness of the fluctuations in the amount of goods demanded, with the change in price where all the other factors are constant (Parkin 2002). The own price elasticity of demand (Ed) is given by;
Where p0 is the original price before the change, p1 is the price after the change; q0 is the original quantity before the change while the q1 is the price after the change.
The cross demand elasticity is the responsiveness of quantity demanded of goods, to fluctuation in price of another (Bordley 1986). In this case, there is a situation where the fluctuations in the price of a good make the demand of another one change. This only happens if the goods are either complements or substitutes (Walter 1998). A complement refers to a good used together with another while a substitute is a good used to serve the same purpose (Arthur 2003). If we have the goods X and Y,
From this diagram, X and Y are complements. We note that an increase in the price of good X brings a consequent decrease in the quantity of good Y. The cross price elasticity of demand (CE) is given by;
CE= ∆Qy Px/Qy ∆Px
Where Qy is the original quantity of good Y before the change, Px is the original price of good X while ∆Qy and ∆Px are the change in the quantity demanded of good Y and the change in price of good X respectively.
Income demand elasticity is the responsiveness of the demanded amount of a good to fluctuations in the income level of the target market (Perloff 2008). In this case, there are two types of goods that include inferior goods and normal goods. In case of inferior goods, their demand decreases with an increase in the income. For normal goods, the demand increases with the increase in the level of income of the target market.
Where Q0 is the quantity demanded before change, ∆Q is the change in quantity of demand; I0 is income before the change income level while ∆I is the change in income.
The Cola Magic firm does not have market power in respect to Lemon Heaven Soda. Market power refers to the capability that a firm possesses, to increase the market price of a given good or service above marginal cost hence enabling it to make a greater profit without losing customers. In this case, the cross elasticity of demand is+3.2 which is greater than zero. The two drinks are substitutes. This implies that an increment in the price of Cola Magic would lead to a consequent increment in the demand of Lemon Heaven Soda which would reduce the demand of the Cola Magic. The firm is, therefore, not a price maker. We can, therefore, make a confident conclusion that the firm is a price taker.
The Cola Magic and Lemon Heaven Soda are substitutes. This means that since they serve a similar purpose, they can replace each other in the market. The value of cross price elasticity of demand implies that an increment in the price of a substitute will result to a decrease in need of the other. Equivalently, the reduction in the price of the other will result to an increased demand of the other. These two relationships elaborate that Cola Magic and Lemon Heaven Soda affect the demand of each other.
We observe that the income elasticity of demand is +1.5. Since this is greater than zero, we conclude that cola magic is a normal good whose need rises with an increase in income level of the target market. This implies that a 10% increase in the level of income of the target market would increase the demand of Cola Magic. This is because the income elasticity of demand is a +1.5, which is greater than 1.
I would recommend a reduction in price of Cola Magic. Cola Magic is price elastic in accordance to the accountant. It is clear and concise that when the price of a price elastic product falls, we expect a rise in the demand of that product.
This leads to a consequent profitable rise in the number of consumers which would be a way of advertising Cola Magic. In respect to long term adjustment, this would ensure market availability in case the market forces forced the firm to increase the price in the future. As a result, the Cola Magic would be more competitive than the Lemon Heaven Soda. Other factors include; availability of the additional raw materials, the capability to expand the firm, the current price of Lemon Heaven Soda and availability of labor.
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The control of supply and demand of goods and services relies partially on the market and the control put into consideration. It is crucial to focus on the factors that will enable the success of marketing and self advertisement of goods and services. It is also necessary to point out about the necessity of a silent advertisement of goods and services enhanced by consumers. Economists have a vital role they ought to play so as to ensure the success of marketing.
They also should consider the availability of basic goods and services in the market for consumers by trying to lower their prices. When the prices reduce, more consumers afford these goods and services hence increasing the demand. Economists aware of the proceedings of the market fight on reaching and achieving their success by attaining as many customers as possible.
In conclusion, the foundation of the economy is the buying of goods and services by consumers and their sale by sellers.
Arthur, S & Steven, M 2003. Economics: Principles in action. Upper Saddle River, New Jersey.
Bordley, R 1986, Relating Cross-Elasticities to First Choice/Second Choice Data, Cambridge University, Cambridge.
Parkin, M, Powell, M, & Matthews, K 2002. Economics, Harlow, Addison-Wesley.
Perloff, J 2008, Microeconomics Theory & Applications with Calculus, Pearson.
Walter, N 1998, Microeconomic Theory, The Dryden Press.