Elasticity vs inelasticity of demand marginal analysis and pricing opportunity cost business decisions

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Student Name
MBAV 6053 Economics for Managers
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ABSTRACT


TABLE OF CONTENTS
TABLE OF CONTENTS.................................................................................i
INTRODUCTION...........................................................................................1
PART 1 ELASTICITY VS. INELASTICITY OF DEMAND.................2
PART 2 MARGINAL ANALYSIS AND PRICING................................2
2.1. About marginal analysis and sunk costs......................................2
2.2. Four ways to avoid sunk cost for better pricing decisions.........4
PART 3 OPPORTUNITY COST TO DECISION-MAKING................5
3.1. The importance of opportunity costs to decision-making..........5
3.2. How opportunity costs lead to trade............................................7
PART 4: HOW BETTER BUSINESS DECISIONS CAN BENEFIT
NOT JUST THE PRODUCER BUT THE CONSUMER AND
SOCIETY AS A WHOLE..........................................................................8
4.1. Deontology approach.....................................................................8
4.2. Consequentialism approach..........................................................8
CONCLUSION..............................................................................................10
REFERENCE................................................................................................11

i

INTRODUCTION
Throughout the history of economic theory, each school has its
theoretical characteristics; it is regulated and governed by its methodology
and economic history conditions. However, from the perspective of the
concept of the state's role in the market economy, the history of economic
theory since the formation and development of capitalism until now is a
debate on the market role. This article will introduce the elasticity/ inelasticity
of demand, marginal analysis, sunk costs, and opportunity costs and discuss
how business decisions can benefit society, helping readers understand the
terms from the definitions and related examples.

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PART 1 ELASTICITY VS. INELASTICITY OF DEMAND
The price elasticity of demand of a good indicates how sensitive its
quantity demanded is to its price (Ed, PED). When the price of a good rises,
the amount demanded falls for almost all of them, but more so for some than
others. Price elasticity measures the percentage change in quantity demanded
that results from a one percent price increase when all other factors remain
constant. A 1 percent price increase causes a 2 percent decrease in quantity
demanded when the elasticity is 2. Various elasticities evaluate how the
required amount alters in response to other variables (Heister et al., 2016).
For instance, a company may decide to raise prices if it learns that its
PED is extremely inelastic (|Ed| 1) and that doing so won't result in a
significant drop in sales. On the other hand, if a company discovers that its
PED is extremely elastic (|Ed| > 1), it might want to reduce its price. Due to
this, the company will be able to sell significantly more units while
maintaining the same level of profit per unit.

The demand for agricultural products is inelastic, consumption is
relatively stable, and it is less dependent on price(Syrovátka, P., 2012). The
market is sound, but supply is constantly increasing, increasing supply times
more than demand. Therefore, even if the price decreases when the quantity
supplied decreases, it will not be significant.
PART 2 MARGINAL ANALYSIS AND PRICING
2.1. About marginal analysis and sunk costs
The revenue growth from selling one more unit of output is known as
marginal revenue(MR). Although marginal revenue can remain constant over
a certain output level, the law of diminishing returns states that as the output
level rises, marginal revenue will eventually begin to decline (Sanz-Sanz, J.,
2019).
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Example: A business sells 100 products, with total revenue of $500.
The company increases sales volume to 101 products for total revenue of
$505. Thus, the marginal revenue of the 101st product is $5.
MR = ΔTR/ΔQ
The total expenses needed to produce one additional good are
calculated as the marginal cost (MC). As a result, it can be measured by
changes in the costs incurred for each other unit. Change in Total Expenses /
Change in Units Produced = Marginal Cost.
(MC = ΔTC/ΔQ = ΔTVC/ΔQ).
Example: A firm is producing 5000 CDs at a total cost of $20,000. If
the total cost of producing 5001 CDs is $20,001, then the marginal cost of
having the 5001st CD is $1.
A marginal analysis of the costs and benefits is required when a
manufacturer wants to expand its business, whether by adding new product
lines or boosting the output of goods from the current product line. The price

of additional manufacturing equipment, any extra staff, needed to support an
increase in output, large manufacturing or storage facilities for finished
products, and the price of additional raw materials required to produce the
goods are just a few of the costs that need to be looked into.
A sunk cost is one that has already occurred and cannot be recovered
(WANG & Zeng, 2019). Sunk costs have no connection to any event and
shouldn't be taken into account when choosing an investment or task. When
making such decisions, only relevant costs (costs associated with a particular
finding that will change as a result of that decision) should be taken into
account.

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Sunk costs can be recognized and taken into account when determining
pricing by a company to reduce marginal costs and maximize the return on an
investment even though they have no impact on marginal analysis. Marginal
analysis uses opportunity cost to avoid the sunk cost fallacy and make wise
decisions.
2.2. Four ways to avoid sunk cost for better pricing decisions
Build creative tension.
Some companies strive for total organizational synergy. Others, on the
other hand, prefer to create "creative tension."
Finances must ensure that the project stays within its budget. The
project's creative must guarantee its high caliber. A beautiful but prohibitively
expensive website could be the end result if Creative got their way. However,
the final product might be too lean if Finance had its way. The company can
avoid the sunk cost fallacy by encouraging creative tension and establishing
an internal system of checks and balances.
Track the investments and future opportunity costs.

When making business decisions, many people only consider the
monetary costs and benefits of staying the course. However, the opportunity
costs must also be considered. By choosing to follow the original course,
people forgo alternative uses of their resources, including time, money, and
people.
In order to know how much money and time they have spent, managers
should keep track of their investments. Maintaining a schedule and keeping
track of the time spent on each project are excellent ways to achieve this.
Have an open discussion about all the alternatives that may be
sacrificed to complete a sinking project. The outcomes can be eye-opening.
Do not buy into blind bravado.
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Be ready for the inevitable discussion about cutting losses as a leader.
Consider it as shifting those precious resources—losing more of them would
be the ultimate defeat—toward more fruitful endeavors rather than conceding
defeat.
Let go of personal attachments to the project.
Shutting down projects that have consumed so much time and funds is
never easy, especially when it has to be informed to the rest of the teammates.
The stronger the emotional attachment to a project, the more difficult it is to
accept that it will fail.
It is more likely to move forward if a person's performance review or
job depends on the success of a project or if success is necessary to make a
point. No one wants to be a leader who launches failed initiatives; therefore,
we may choose to ignore the clear signs of trouble.
PART 3 OPPORTUNITY COST TO DECISION-MAKING
3.1. The importance of opportunity costs to decision-making
About opportunity cost

Opportunity costs are the potential benefits a business, an individual, or
investor foregoes when deciding one option over another(Williams, J., 2015).
Because opportunity costs are by definition invisible, they are easily
overlooked. Understanding the potential missed opportunities when a
company or individual chooses one investment over the other allows for more
informed decisions.
Formula and Calculation of Opportunity Cost

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<Source: Williams>
For example, if an Investor has 100 million of idle money and wants to
make more, there are currently two popular, profitable options.
 First, choose to invest in the stock market, earning quick profits
with high returns and certain risks.
 Second, conduct a bank savings account with an interest rate of
7%/year. Enjoy regular profits at monthly interest rates in a
stable, low-risk way.
If investors choose a savings deposit plan, they will enjoy a stable
interest rate of 7%/year. Then the opportunity cost he has traded here is the
profit earned from the stock market, which can be up to 30% interest per year.
Using opportunity cost is a great method for calculating the advantages
and disadvantages of both options because it gives each one a value. Anyone
can make more sensible decisions that will benefit them if they are aware of
the true costs associated with each course of action. Here are some of the
advantages of understanding opportunity costs:
Awareness of missed opportunities
The opportunity cost considers that when people make a decision, they
must forego other options. This allows them to make more economically

sound decisions that maximize their resources.
Some contend that opportunity costs are not "real" costs because they
do not directly appear on a company's financial statements. Due to the fact
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that it is a comparatively abstract idea, many businesses neglect to take it into
account when making daily decisions. In the long term, the opportunity cost
can significantly impact the outcomes of individuals or businesses.
Knowing relative prices
Another significant advantage of considering opportunity cost is
comparing each option's relative prices and benefits. Compare the total value
of each option and choose the one that provides the best deal.
Help set priorities
The more cost-effective the commercial benefit of an enterprise
opportunity is, the higher it ranks on the priority scale. Businesses can
determine the most critical and profitable alternative based on the
circumstances and business needs.
For example, if the company determines that the opportunity cost of a
choice is higher than what the business gains from its original proposal, it can
change its opinion and promote the option. Businesses use this decisionmaking method to ensure that their decision's benefits outweigh an
alternative's costs.
3.2. How opportunity costs lead to trade
Trade is a result of comparative advantage. The terms of trade for
exchange under which mutually beneficial work can occur are determined by
comparative advantage and opportunity costs (Shi, J., 2020).
Optimizing for opportunity cost, in other words, leads to acting for
comparative advantage, which leads to trade. Moreover, trade is a
fundamental characteristic of a healthy, active economy.

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PART

4:

HOW

BETTER

BUSINESS

DECISIONS

CAN

BENEFIT NOT JUST THE PRODUCER BUT THE CONSUMER
AND SOCIETY AS A WHOLE
4.1. Deontology approach
Ethics is the investigation of morality and how to practice perfect
character formation and behavior constantly. Deontology is a method of
judging the morality of others using a set of rules.
Deontology is the use of rules to judge the morality and actions of
others. People initially learn the rules within the family structure.
Philosophers have contributed to a better understanding of ethics and rulemaking. C.D. Broad [3] described the "five types of ethical theory" in his
book of the same name in 1930. It contained the notion that abiding by moral
and ethical standards is required and that every choice has an impact. This is
the origin of the word "consequentialism." Therefore, if morality and duty
exist, there is always an evaluation of those actions that follow them.

Consequentialism underpins traditional deontology and ethical theories.
They are concerned with doing well for the most significant number of
people. This should be the rule that all professionals follow. Because a
positive mindset can influence an entire organization, business owners, CEOs,
and board members ought to possess this ethical framework in addition to
individuals.
4.2. Consequentialism approach
Consequentialism is an ethical theory that determines whether
something is right or wrong based on its consequences(Peterson, M., 2012).
For example, most people agree that lying is wrong. However,
consequentialism says it is suitable if telling a lie saves someone's life.
Utilitarianism and Hedonism are two examples of consequentialism.
Utilitarianism evaluates consequences in terms of the "greatest good for the
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greatest number." On the other hand, Hedonism believes that something is
"good" if it produces pleasure or avoids pain.
Consequentialism is sometimes criticized since it can be difficult, if not
impossible, to predict the outcome of an action in advance. No one can
forecast the future with certainty. Furthermore, consequentialism can result in
objectionable choices even when the consequences are objectively good in
certain situations.
For example, at a local market, five specific breed puppies are sold for
$100 each. Some market participants are willing to pay the market price.
Barbara wants to pay $150, Christine wants to pay $120, and Dan wants to
pay the market price of $1000. As a result, Christine has a $20 surplus, Dan is
the marginal buyer and has no consumer surplus in this transaction, and
Barbara has a $50 consumer surplus. The combined consumer surpluses of
Barbara and Christine would equal the market surplus, which would be $70.

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CONCLUSION
Microeconomics is the study of how people and businesses decide how
to use their limited resources most effectively. Its principles can be helpfully
used when making decisions in daily life, such as when you rent an
apartment. After all, the majority of people only have a finite amount of time
and money. They must choose carefully how to use their limited resources in
order to maximize personal satisfaction because they cannot afford to buy or
do everything they want.
A business similarly has a limited amount of time and money.
Businesses also make choices that will benefit the company the most, which
could mean maximizing profit.

10


REFERENCE
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4. Heister, T., Hagist, C., & Kaier, K. (2016). Resistance Elasticity
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market

demand&nbsp;.

Agricultural

Economics

(Zemědělská

Ekonomika), 52(No. 9), 412-417. />6. Sanz-Sanz, J. (2019). The relative revenue power of the marginal
tax rates in personal income tax schedules: the Revenue Equivalent Marginal
Rate Increase (REMI). Applied Economics Letters, 27(13), 1081-1086.

/>7. WANG, C., & Zeng, X. (2019). Transferable Sunk Cost
Hypothesis: A New Analysis of Sunk Cost Fallacy. SSRN Electronic Journal.
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Opportunity

Cost.

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9. Shi, J. (2020). MACRO-ECONOMIC FACTORS OF SINO-US
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