Management Economics Question 2022

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Running head: MANAGEMENT ECONOMICS
Management Economics
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2Management Economics
Management Economics
Question 1
(i) Hypothetical Demand Function
(a) Selection of Explanatory Variables in the Function. Law of Demand
depicts that whenever price of a certain commodity falls, the consumers tend to buy
more and vice versa (The Economic Times, 2019). The variables include the annual
income of consumers, their preferences, and the prices of other substitute or competitive
products in the market. The equation which holds the relations of all the influencers is
recognized by demand function by the economists. It can thus, be explained through a
simpler linear equation as provided below:
Qdx = f (Px, I, Py,.....)........................................................ (1)
Where;
Qdx = Quantitative Demand for Good X
Px = Price per Unit of the commodity X
Py = Price per Unit of the subsidiary product Y.
I = income of the consumer (as in $1000 per household annually)
The equation describes that quantity demanded of commodity X is dependent on the
summarized price of Commodity X, Y and the income of the consumer as well as other
variables. The following linear equation describes tea consumption of a small town’s
per-household per week, whereas Py might be the average price of sugar used in $1,000
Qdx= 6.8-0.2 Px + 0.072 -0.01 Py ............................................... (2)
The exemplified equation above depicts that tea consumption gets reduced with
rise in the price of sugar.This kind of definite relationship indicate the existence of
negative cross-price elasticity of demand between the tea and sugar (complementary
products) (Eastin & Arbogast, 2011).
(b) Demand Elasticities. Theory of Elasticity is a microeconomic factors, as per
which the change in one variable brings about an alteration in the value of another

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variable. In this case, the price of a good cannot be considered as the only functional
determinant of quantity demanded, as it also relies on the factor of consumer income
(Economics Online, 2019).
Own price elasticity is the major influencer, which helps in determining the concept of
normal goods and inferior goods. It is explained by the Law of demand that own-price
elasticity of demand will almost always be negative but the income elasticity can be
negative, positive, or zero. The negative impact of the income can further be understood
from the fact that a sudden rise in exogenous income reduces the consumption level of
the customers to a large extent. This can be more clearly inferred from the example of
inferior goods, which precisely highlights that there exists an inverse relationship
between the factors of quantity demanded and consumer income (Nechyba, 2011).
The variable in the right-hand side of the demand function acts as the basis of its
own demand. When the price of other commodity creates an impact on the demand of
another commodity, it is generally identified as cross-price elasticity of demand.
Through this concept, substitutes and complements can be adequately described. For
instance, in case of some series of goods P and Q, when the price of ‘P’ rises and
demand for Q automatically increases, this situation is known to be positive cross
elasticity of demand and the commodities are defined as substitutes. On the contrary,
complementary goods refer to those two products, where fall in the price of one
commodity leads to the rise in the demand for the other. Such a scenario can be termed
as Negative Cross-Price Elasticity of Demand (Xplaind, 2019). The previously
discussed equation provides us with the knowledge of negative cross elasticity, as the
goods are inclined to be consumed together as a pair. However, the determination of
substitutes and complements can be determined through instant surveillance and
statistical analysis (Shocker, Bayus & Kim, 2015).
(ii) Demand for Electricity
(a) Profit Maximizing Amounts. In order to maximize profit, the firm requires
MC=MR (Agarwal, 2019)
The profit demand function is P=1200-4Q
Total production is Q = Q1 + Q2 and the cost of producing electricity are provided by
C1(Q1).