Microeconomics and the Laws of Supply and Demand
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Identify a product and describe its characteristics which are valuable to demanders and describe the nature and character of its production and costs that are relevant to suppliers I chose gasoline relative to the supply, demand and consumption within the United States as the product studied. For demanders to understand the nature of gasoline pricing, they must not focus only on the price of crude oil and how the supply of crude affects the ultimate price of a gallon of gasoline. It is true that this is an important component and that political, social and economic forces cause the price of this raw material to sometimes wildly fluctuate. Quantity of supply and consequently the price of gasoline are also heavily influenced by the cost of the refinement process which transforms the crude oil into gasoline. Refinement is a relatively complicated process within an oil refinery. Refinement can be broken into a three part process, each of which involves unique inputs and entail distinctive methods of production (“What is a refinery?”, 2014). The refinement process results not only in gasoline but also multiple petroleum based products sold to consumers and businesses.
Identify at least one shift factor of the supply curve and one shift factor of the demand curve for the product that you selected. What causes the change in these shift factors? Is the source of change in these shift factors due to macroeconomic or microeconomic trends? Perhaps the most unpredictable and volatile shift factor in the quantity of supply of gasoline is political and social turbulence of international oil producing countries. The price of crude oil accounts for approximately 50% of the cost of the gasoline product. Most recently the military/terrorist actions of the “ISIS” group in Iraq led to a disruption in oil supply that contributed to a rise of four dollars a barrel in the worldwide crude market (Greiner, 2014).
This is most definitely a macroeconomic factor as the price was not related to individual or firms choices but to an influence that affects the entire economy of a geographic region (Colander, 2013, p. 6). Another shift in supply is related to oil refinery problems, breakdowns and accidents. There are a total of 142 operable refineries in the United States, but only fourteen oil refineries were built between 1975 and 1998, and only one since in 2008 (“U.S. Energy Information Administration/When was the last refinery built in the United States?”, n.d.). Though many of the original refineries have been upgraded to increase their output significantly over the years, but the relatively small number of operating refineries compared to demand means that a significant incident at any one refinery can and has caused a significant shift factor in supply (Mouawad, 2007). This type of shift is microeconomic, as it is relevant to the maintenance and cost of production of individual firms responsible for supplying the gasoline market.
For each change in a shift factor, analyze how it would shift either the demand or supply curve, and how that shift would impact the equilibrium price and quantity traded of the product: Oil is also traded as a commodity, meaning that while it may be consumed immediately upon purchase, it can also be stored as an investment and re-sold. That factor means that oil speculators will bid the price of oil up or down based on any factor that is perceived to affect the future supply of oil. Speculation drives the price of oil both up and down and quickly. Equilibrium price is reached quickly in the open marketplace. A downward shift in supply from a refinery disaster or war in the Middle East will cause an immediate tightening of supply and a rise in of gasoline at the pump within days of the incident. This initial rise is industry’s best guess at the new equilibrium price, and public reaction further equilibrates the price. The opposite is also true. If the public perceives the price of gasoline to be persistently high, a downward shift in demand will force the gasoline industry to decrease gasoline prices to reach a new equilibrium.
How may you apply what you learned about supply and demand from the simulation to your workplace or your understanding of a real-world product with which you are familiar? Consider how that resulting change in price and quantity would affect demander’s decision making. Consider how that resulting change in price and quantity would affect supplier’s decision making. One of the most volatile and high pressure products at Disney is the hotel resort industry. Disney’s hotel business model sells to the general public, like the gasoline industry. But while the quantity of supply of gasoline fluctuates daily, hotel room night supply is fixed. Unlike gasoline which may be stored and resold, room nights are a fungible good. If a room night goes unsold, the opportunity for a sale is lost forever. Disney’s decision making on price is therefore driven on the need to sell a specific quantity by a specified date. The result is interestingly much the same, as pricing may fluctuate greatly, even day to day, and as Disney is pressured to constantly find the equilibrium price to achieve maximum hotel occupancy at maximum profit.
Relating to the product you have chosen to analyze, explain how the income elasticity of demand affects a consumer’s purchasing and the firm’s resulting pricing strategy. Like oil, there are macroeconomic factors that affect the demand curve for hotel room nights that transfer to an almost immediate shift in consumer demand. In the hotel industry, negative microeconomic and macroeconomic evens cause a downward shift in demand and force suppliers to lower price to seek a new equilibrium. For example the terrorist attack on the New York World trade Center of 9/11/01 caused a pronounced shift in demand among the public in regard to vacation travel. (“Examiner.com / September 11, 2001: A Dark Day In Walt Disney World History”, 2009).
Individuals may choose substitute forms of entertainment when the perception of our price does not provide entertainment value. When unemployment is high and the economy is in recession, this macroeconomic factor will result in decreased demand for vacation travel. Our company reacts to these downward shifts in demand by lowering the price of room nights and theme park tickets to reach a new equilibrium price. And as evidenced by the recently improved economy, will raise prices to accommodate for upward shifts in demand based on improving macroeconomic factors.
Colander, D. C. (2013). Microeconomics (9th ed.). Boston, MA:
McGraw-Hill/Irwin. Retrieved from University of Phoenix eBook Collection database.
Examiner.com / September 11, 2001: A dark day in Walt Disney World history. (2009). Retrieved from http://www.examiner.com/article/september-11-2001-a-dark-day-walt-disney-world-history
Greiner, B. (2014). Instability In The Middle East And Its Global Impact. Retrieved from http://www.forbes.com/sites/billgreiner/2014/06/16/instability-in-the-middle-east-and-its-global-impact/
Mouawad, J. (2007, July 22). Record Failures at Oil Refineries Raise Gas Prices . New York Times. Retrieved from http://www.nytimes.com/2007/07/22/business/22refine.html?pagewanted=print&_r=0
U.S. Energy Information Administration/When was the last refinery built in the United States?. (n.d.). Retrieved from http://www.eia.gov/tools/faqs/faq.cfm?id=29&t=6
What is a refinery?. (2014). Retrieved from http://www.sjvgeology.org/oil/refinery.html