1. Players Theater Company
Should the theater cut prices?
The theater has 500 seats; about 200 are filled in a typical performance
The PTC has been charging $30/seat
Issues:
Price of meals at nearby restaurants
Convenience of parking
Price of other nearby theaters
Quality of performances
Should different seats sell for different prices?

2. Demand Function Q = f(X1, X2,…, Xn) Example:
Q = 117 – 6.6 P Ps – 3.3 Pr I
Issues
You might want to think about Q as the average number of seats sold at a performance during the season. In that case fractional numbers of seats are meaningful
The linear demand function is convenient, but not required.
There are many other items that we might want to put into the demand function including some of the items discussed on the previous slide.

3. Demand Curve Ticket Price in Dollars Income = $50,000
Price of Symphony tickets = $50
Price of meal at nearby restaurant = $40 60 30
Demand
200
400
Quantity of PTC Tickets

4. Demand Curve Ticket Price in Dollars Income = $50,000  $51,000
Price of Symphony tickets = $50
Price of meal at nearby restaurant = $40 61 60 30
200
400
406.6
Quantity of PTC Tickets

5. Elasticity of Demand Definition Calculating
η = -(% change in Q) / (% change in P)
Calculating

6. Ticket Price in Dollars
Arc Elasticity
Ticket Price in Dollars 60 40 30
133
200
400
Quantity of PTC Tickets

7. Estimates of Price Elasticities
Sugar = 0.31
Potatoes = 0.31
Tires = 1.20
Electricity = 1.20
Haddock = 2.20
Movies = 3.70

8. Total Revenue, Marginal Revenue
Total Revenue = P x Q
Marginal Revenue = the change in total revenue associated with selling one more unit of the product

9. Ticket Price, Marginal Revenue In Dollars
η > 1
η = 1 30
Demand Q
Total Revenue in Dollars MR
Total Revenue Q

10. Other Factors Influencing Demand
Prices of related products
Complements vs. Substitutes
Defining a Market
Cross Price Elasticity of Demand

11. Estimates of Cross Elasticities
Electricity and Natural Gas = 0.20
Beef and Pork = 0.20
Natural Gas and fuel oil = 0.44
Margarine and Butter = 0.81

12. Other Factors Influencing Demand
Income
Normal vs. Inferior goods
Income Elasticity of demand

13. Estimates of Income Elasticities
Flour = -.36
Natural Gas = 0.44
Margarine = -0.20
Milk = 0.07
Dentist Services = 1.41
Restaurant Consumption = 1.48

14. Industry Quantity of output
Advanced Issues
Network Effects
Product Attributes
Product Life Cycles
Industry Quantity of output
Intro
Growth
Decline
Network Effects: Some products are more valuable to customers the more other people there are that use them. This may cause firms to use low introductory prices in order to make more money later.
Maturity
Time

15. Demand Estimation Interviews Price Experimentation
Statistical Analysis
Omitted Variables Bias
Multicollinearity
Identification Problem

16. The Identification Problem
Suppose that this is a history of recent price and quantity changes in our industry:
Year
Price
Quantity
2004 25
4.5 million
2005 29
5.25 million
2006 22
7 million

17. The Identification Problem
Price in
dollars
2005 29
2004 25
2006 22
Industry output
In millions
4.5
5.25 7

18. The Identification Problem
Price in
dollars D’
2005 29 D
2004 25 S 22
Industry output
In millions
4.5
5.25 7

19. The Identification Problem
Price in
dollars D’
2005 29 D 25
2006 S 22 S’
Industry output
In millions
4.5
5.25 7