Wal-Mart & Elasticity

iamnotaparakeet · Posted: Wed Nov 04, 2009 1:10 am Post subject:

How elastic are the products?

How willing would you be to shop at a store like Wal-Mart if the prices were no longer "Always Low"? For items which mainly derive their demand from being affordable substitutes of better quality items or just discounted items of the same make? If the discounts were not there, and items of the same make were of equal price? If the off-brand items were to cost the same as the items of which they are copies?

Being in the service of retailing, each department is basically its own little economic microcosm. During the salmonella incident with Peter Pan and Jiff peanut butter, some of their jars had to be removed from the shelves. The ones which date of processing and factory numbers were on the pick list to be taken away from public access immediately, they were removed exceedingly promptly. However, news of the salmonella contamination in a portion of these companies products added the effect of customer caution, which would logically decrease quantity demanded. While some people took the time to check the numbers themselves, others just avoided peanut butter of these brands in general rather than expend the opportunity cost of time to check. At that time, the Great Value brand increased its price for peanut butter, while Peter Pan and Jiff decreased theirs. This is one instance I remember an off-brand actually having a higher price than name brands.

I do not remember any sales data from this example though and such in system data, as far as I know, is publically unavailable. Personally, I knew the contaminated jars were already picked from the shelf, so I would not mind buying Jiff or Peter Pan peanut butter, because I knew the remaining ones were safe. For me, or for other employees or for anyone with this knowledge or assumption, their individual demand for the lower priced name brands would increase; this segment of the market would generate more revenue on these particular products due to the decrease in price. In respect to this type of customer, the demand would be elastic. For this same segment of customers, the increase in price of the off-brand would lessen the quantity demanded of it by them. From them, Great Value would earn less revenue, so within this set of customers, the off-brand would also be elastic.

There need not be an epidemic to alter the quantity demanded for substitute item though. In all the departments and within each microcosm containing two or more items of a similar function. In the aisle with various types of pens, there may be Zebra pens and mechanical pencils, which are an item I prefer to buy because they are of good quality. However, they can cost $3 to $5 individually. If there were writing instruments of slightly lesser quality on a clearance sale, say $1 to $2 apiece, that may be worth it. The lower price of the item that I view as having lesser quality increased the quantity that I would demand of them in opposition of the brand I normally prefer. In the case of generic off brand writing instruments, if they were on sale so that an hundred of each pen or pencil cost only a penny, then I might spend a dollar on that sale, in the hopes that one out of ten thousand would actually work.

In considering the demand of the products at Wal-Mart in general however, I will allude to the previous paper that Wal-Mart's main market advantage is not in the quality of its merchandise, but mostly due to the affordability of the items carried. If the items which Wal-Mart carries were to generally increase in price, the quantity demanded of them would generally decrease at Wal-Mart and the same or similar items would generally increase in demand at other stores. If prices were to decrease in general at Wal-Mart, then the "Wal-Mart effect" would just get worse in that the quantity demanded of item would generally increase at Wal-Mart and generally decrease at other stores. If, however, Wal-Mart were to increase their prices generally to be equal with their competitors on items of same or similar function, then I think the quantity demanded, for practically all merchandise, would behave with perfect elasticity. In this scenario, which is highly unlikely for the current leadership of Wal-Mart to allow intentionally, then the demand for Wal-Mart's merchandise, in relation to demand for competitor's merchandise would be equal at best though probably less if they still under-employ and over-use their workers and by such means give them incentive to provide lousy customer service as usual. In my opinion at least, the elasticity of the products offered by Wal-Mart generally have a high elasticity, which is basically the corporation's main attraction.

If the company needed to increase sales by 40%,
what would need to be done, in terms of elasticity?

In terms of elasticity, they would need to reduce the price to increase the quantity demanded. As per page 98 of the textbook, products with elastic demand will increase the quantity demanded, and thereby the quantity sold, working to increase total revenue. It would be important to determine which items have elastic demand, so as to select the items which may optimize profits.

To solve for an increase in sales, which would be the quantity sold at a price,

Elasticity demand = Δ Quantity demanded / Δ Price

Δ Price * Elasticity demand = (Δ Quantity demanded / Δ Price) * Δ Price

Δ Price * Elasticity demand = Δ Quantity demanded

(Δ Price * Elasticity demand) / Elasticity demand = Δ Quantity demanded / Elasticity demand

Δ Price = Δ Quantity demanded / Elasticity demand

As the Elasticity equation solved for the change in price, all that would need to be done to solve for the price to change an item of merchandise is to set the Δ Quantity demanded to positive 0.4, or 40%, and input the particular value of elasticity for the item, whatever the closest to current value may be.

If I am incorrect about the quantity demanded being equivalent to the sales, and instead the revenue is instead, in this case I will solve for Δ Price in terms of revenue and current product elasticity. With the equation,

Δ Revenue = Δ Quantity demanded * Δ Price

solving for Δ Quantity demanded,

Δ Revenue / Δ Price = (Δ Quantity demanded * Δ Price) / Δ Price

Δ Revenue / Δ Price = Δ Quantity demanded

Δ Quantity demanded = Δ Revenue / Δ Price

And inserting this equation into the Elasticity equation,

Δ Price = Δ Quantity demanded / Elasticity demand

+

Δ Quantity demanded = Δ Revenue / Δ Price

combines as,

Δ Price = Δ Revenue / Δ Price / Elasticity demand

Δ Price+1 = Δ Revenue+1 * Δ Price-1 * Elasticity demand -1

Δ Price = Δ Revenue / (Δ Price * Elasticity demand)

Δ Price * Δ Price = [Δ Revenue / (Δ Price * Elasticity demand)] * Δ Price

(Δ Price)2 = Δ Revenue / Elasticity demand

√(Δ Price)2 = √(Δ Revenue / Elasticity demand)

Δ Price = √(Δ Revenue / Elasticity demand)

Working with this equation, under the assumption that the term sales relates to the gross profits rather than the quantity demanded, to solve for the price adjustment: set the Δ Revenue to the value of 0.4, or 40%, and input the current value of elasticity.

How this would affect both supply and demand.

Under the first assumption whereby a 40% increase in sales means a 40% of quantity demanded. This meaning that 40% more product is sold. In this case, as more amount of product, say off-brand ink pens, are sold, the supplies will decrease. However, in the case of off-brand ink pens, the demand will decrease also. Not just because the household supply has increased, but also due to attempting to write with them. (And for those who had missed the 100 pens per cent sale, they don't know what they missed, so their demand for the off-brand junk may still exist for a while.)
Under the second assumption, that the term sales refers not to the quantity sold but to the gross profit derived from a product, for each sale quantity is still decreased. Whether the current elasticity calls for the price to be raised, such as for an item with a high inelastic demand, or to be lowered, in the case of a product with elastic demand, for each increment in revenue gain, more quantity has to be sold. So similarly, as more revenue is generated, the supply decreases. Let's consider an item in which the demand is elastic, say peanut butter. The price is lowered so as to increase quantity sold per time in order to attempt to boost profits to 40%. The supply decreases, thus increasing the demand. For an item of inelastic demand, the price is increased by 40% if perfectly inelastic, or perhaps raised more or less around 40% depending on the exact nature of this product's inelasticity. The rate of decrease in supply could lower slightly, or, if it is perfectly inelastic, then the rate may remain constant. Supply of product will decrease. The quantity demanded decreases with increasing price though, and so would demand if the price is set too high. Such as for parakeet food, the bags of seed. It is necessary to feed a pet, and the demand to feed your pet is even stronger if you love the critter. However, if a store, such as Wal-Mart (or any store that sells bird seed for parakeets) were to increase the price on this item to an exorbitant rate, then substitutes would need to be found (such as broccoli, bell pepper, rice, spaghetti pasta, and other items which are edible and good for the budgies), either within the store, or at another one. By playing upon the current value of elasticity of demand, as by being excessive in pricing, they may shift the demand from being inelastic into being elastic or, at the worse case for the company, they may even convert it into becoming perfectly elastic.

Could this affect substitute or complementary products?

Yes, as some examples have been given in relation to bird seed already. But to be more thorough, I will continue to expound. The substitute items for bird seed, such as fresh vegetables from the produce section would be affected first in that more of their quantity would be demanded. After the store notices that the demand for produce has increased, they'll adjust the prices to optimize profits, whether by increasing the quantity sold by decreasing the price, or by increasing the price. If the financial analysts got wind of the notion that the overpricing scheme of the bird food was increasing the quantity demanded of the produce, then a possible course of action (if the addition sale of produce is turning out to be profitable more than the sales of bird food has been historically) is to continue the overpricing scheme of the bird food, and then hike up the price of produce. However, such an action would only serve to encourage this store's customers to seek a supplementary store, and as such this strategy would be highly unlikely to be adopted by Wal-Mart; neither Sam Walton nor Lee Scott would be likely to consider the action. Sam Walton because he actually wanted customers to visit his store, and Lee Scott because it would reduce the bottom line.

Continuing with the example of the budgie food in relation to complementary items, it may be possible that with a decrease in demand (in general) for the seed form of food for budgies, that the quantity demanded for birdseed dishes and feeders would decrease. I would imagine that the quantity demanded for seed dishes and feeders would already be low, as they have basically no necessity to purchase them per unit time; seed dishes and feeders are practically a one-time expense, unless they are broken. The feeder style containers can also be used for holding water, as can the cup shape dishes, but the smaller opening prevents less contamination by food and processed food, giving it a slight market advantage in demand, possibly anyway. For the decrease in demand of the birdseed, there would probably be a resultant decrease in demand for seed dishes and feeders in regard to their utility of holding seed.

Concerning the effect on the sale of items complementary to the use of produce in the nourishment of budgerigars, for this hypothetical gedankenexperiment, which is not completely related to the modus operandi of Wal-Mart yet still provides a basis of qualitatively analyzing potential economic effects, we must ask, "What items could be used to serve veggies to a budgie?" One low cost solution would be to continue to use seed dishes, as you already have them. However, there is not a lot of space in seed dishes, nor is there much room for the parakeet to reach the sides of the vegetable meal. I have used paper plates to serve my birds vegetables, rice and the rest. The issue with serving produce or pasta to birds, though, is that there is less need for a specific type of container or serving dish to present the food to the bird with, unlike in the situation with feeding them seeds. So, in respect to determining what the complementary product for serving produce to parakeets, it should be somewhat obvious that there is now single item to serve this demand for a function. While a seed dish or feeder is more of a clear cut product for serving this demand for holding bird seed in terms of likelihood of selection, there is no individual item to hold most of the probability to be utilized for serving the larger items which decay faster. There can be some limiting of possibilities: the item would most likely be similar to either a plate or a bowl, it would need to be large enough to house the size of portions the bird owner intends to give the bird or birds, it would need to be either washable or disposable, and this type of serving dish would also need to be made of materials that are safe to the bird when the bird attempts to eat the dish. So, for selecting a complementary product to serve produce to parakeets, the potential demand for items of this function is distributed among many items possibly. Generally, when a product increases in demand, substitutionary items decrease in demand and increase in supply while complementary items may tend to increase in demand and decrease in supply.
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