Question 1
A consumer splits their income equally between two goods. If the price of one good increase by 10% and their income increases by 5%, show that the consumer’s optimal consumption bundle will change despite them being able to afford their original bundle. Use Diagrams to illustrate and explain your answer.
The concept, of Optimal Bundle, is associated with Budget Line and Indifference Curve. Budget Line sets the constraints, along with prices, and Indifference curve is such curve, on which a consumer is indifferent towards various bundles of two goods.
As per information provided a consumer splits his income into two goods, let us say banana and apples. The price of Apple is $1, whereas the price of Banana is $2 and total income is $40. Following all graphs have been made by me.
Budget Line and Indifference Curve-1
We know that the income of the consumer has increased by 5%. It suggests that with the increase in income, the budget line will shift towards the right, which signifies that there has been an increase in income. The shift in budget line also implies that constraints, regarding consumption, have also changed. Now a consumer can buy more of each good, and he/she will be at a higher consumption level (higher indifference curve).
Budget Lines and Indifference Curves-2
Changes in Quantity Demanded Due to Changes in Price
| 20 | 0 |
| 15 | 5 |
| 10 | 9 |
| 5 | 15 |
| 0 | infinity |
(Note: Above graph and table pertain to changes in quantity demanded due to changes in price.)
However, the price of one good, let us say apple, have also increased by 10%. It suggests that there is a decrease in real income, of around 5% for Apples (because income has also recently increased by 5%). It will shift budget line backward for apples, which price has increased 10%. It will also disturb the optimal bundle position, which will be different from the previous optimal bundle.
Budget Lines and Indifference Curves-3
Budget Lines and Indifference Curves-4
Question 2
When estimating a demand function, explain why fitting a line of best fit through observed price and quantity combinations over time is not likely to yield good estimates. Use diagrams to illustrate and explain your answer
There are a couple of reasons for not being able to yield good estimates by fitting the line of best fit through observed price and quantity combinations over time. One of the foremost reasons is the data itself. Sometimes data is not adequate, which fails to provide a true understanding of demand. Most of the times, regression tests, which are used to analyze demand and project changes in demand with changes in price, do not consider various factors. It is the health of the data, which affects estimations, about demand function. Also, price-quantity combinations can be the result of various factors; fitting line through these combinations (scatter of data), produces a regression line, which is not accurate.
To appropriately estimate demand, of a firm or industry, we have to consider two factors or follow two steps (when endogenous factors such as the intersection of demand and supply determine quantity and price). The first step, of the two steps, is confirming the probability of tracing-out a true demand curve from the available sample of data that is generated by equations that we have used. The second is the use of two-stage Least Squares.
It is quite apparent, in the above figure, which has been adapted fromHighered.mheducation.com, (2017), that produced regression line or demand function is flatter when it should be steeper.
Question 3
In an essay, evaluate the pricing strategies of Cable and Wireless Communications Plc for which it employs for its core product/business to increase its market share and profitability within its industry (at the national level). You must first demonstrate that the company has some power to set its price (that is, it has some degree of market power) example: what is the structure of the industry it operates in? what is the market share for the product? how concentrated is the industry? You must use economic analysis to evaluate the pricing strategies your firm has adopted for its main product. Are the strategies adopted by the firm optimal? If so, why? If not, why not? How might they be improved?
Introduction
Cable &Wireless Communications (CWC) PLC, which was established in the 1880s, is a telecommunication company of UK origin. Telecommunication experts classify CWC as a full-service telecommunication business. The company, which is headquartered in London, has its operation-hub in Florida (US). The UK based company (CWC) operates in Latin America through its subsidiaries, which are four in number. In the Caribbean too, the company provides various kinds of telecommunication services, which include broadband, to its consumers/clients. In addition to telecommunication services, CWC also provides business solutions. However, in different regions or countries, it provides different kinds of services. Furthermore, its strategy also varies from country to country, a structure, of the telecommunication industry, is different in each country. For instance, its business strategy for Latin America is different from its strategy for Caribbean countries, as Caribbean countries have different industries and market structures in comparison to Latin American countries.
For this academic exercise, our focus will be on St Vincent and the Grenadines, which is a Southern Caribbean country. In this nation, multiple telecommunication companies operate, one of which is Cable and Wireless Communications (CWC).From the study, of the market structure, we learn that Cable and Wireless Communication operate in Oligopoly industries/markets, which also exist in St Vincent and the Grenadines. In some nations/islands/countries of the Caribbean, CWC constitutes duopoly. This information aids us in understanding the structure, of telecommunication industries and markets, in different countries of the Caribbean. This information is also vital, as it facilitates us to analyze consumer-base, producer/consumer surplus, pricing strategy, and market share and return on investment in telecommunication industry of St Vincent.
Structure of Telecommunication industry and Market in St Vincent and the Grenadines
There are certain factors that determine the industry’s structure, which include some firms that are operating in industry and market. In fact, it is one of the major characteristics of an industry or market. For instance, when there is only a single firm, operating in an industry or market, such market/industry is classified/identified as a monopoly, in which the size of consumer surplus is very small in comparison to the size of producer surplus. Also, because the supply of single-firm represents the supply of entire industries, producer’s capacity to tamper with prices is large. However, in a perfectly competitive industry/market, where there are a large number of buyers and sellers (producers), the size of the producer surplus is extremely small, and a firm is a price taker, rather than price-maker (in monopoly, a firm is a price-maker) (Taylor, 2006).
From the study of different telecommunication industries, around the world, we learn that mostly telecommunication industries are Oligopoly industries, as there are only a handful of companies that operate in the telecommunication market / industry, which sell similar products (in some cases almost identical). Also, these companies can exert some influence over the market, which allows them to experiment with price, of products and services, to an extent (Economics Online, 2018).
From the gathered evidence, we learn that a handful of telecommunication companies operates in St Vincent and The Grenadines; 1) Eastern Caribbean Telecoms Authority, 2) LIME (Landline, Internet, Mobile, Entertainment), which is owned by Cable and Wireless Communication (CWC), 3) Digicel and 4) Karib (Common Wealth Network, 2018).
These four companies provide full-scale telecommunication services to the consumers of St Vincent and the Grenadines. The number, of companies operating in telecommunication communication industry/market, is small because economies of scale of telecommunication industry are large. The economies of scales (size of the investment) also make it very difficult for telecommunication companies to leave the industry. (Note: a telecommunications industry/market has the characteristics of an oligopoly industry / market. The feature, to easily enter or leave the market/industry, is also absent in telecommunication industry. Therefore, it is an Oligopoly industry).
From the study of the size and structure of the telecommunication industry / market, in St Vincent and the Grenadines, we can better analyze the expansion and pricing strategy of Cable and Wireless Communications.
Pricing Strategy
A firm adopts price strategy to maximize profit, which is the ultimate objective of any firm that operates in an economic or corporate system (Learn Marketing, 2018). However, a firm device and implements price strategy with great care and caution. When devising a price strategy, a firm keeps in the account number of factors, which include, consumer-segments or consumer-base, ability, and the will of the consumer to pay, prevailing market conditions, competition, number of competitors, rival products, the quality of the product, input costs,etc.(Grimes, 2012).
When we study telecommunication industry of St Vincent and the Grenadines, we learn that the competition is intense, despite few telecommunication companies, and these telecommunication companies sell similar products. However, a slight difference in quality makes a great difference in sales, in the telecommunication industry. Therefore, we observe that the difference in quality is small, but has great importance (Wood, 2018).
In St Vincent and the Grenadines, various telecommunication companies operate, which offer similar products and services. However, because of the minute differences in products and services, these products and services become unique. The pricing strategy of Cable and Wireless Communication, therefore, is based on the quality of products and services (Jensen, 2013).
The vast experience, which company has gained by operating in various telecommunication industries around the world, has been translated into improved quality of product and service. It gives a competitive advantage to Cable and Wireless Communications against its competitors, which do not have such expertise and capital to develop infrastructures like Cable and Wireless Communications.
Therefore, we can infer, with great ease, that pricing strategy, of Cable and Wireless Communications, is primarily based on the number and quality of telecommunication product and services it offers. However, other factors, such as its global reputation and market share also aids CWC in devising pricing strategy. It is not unusual, as most of the companies/firms/ organizations, which function in Oligopoly markets, rely primarily on uniqueness (superior/different quality of their products and services) in devising of pricing strategy.
Market Share and Profit
Price is not the only factor, which determines the size of profit; market share too directly influences the scale of profit (as sales increase so makes the profit). Different firms use different strategies to increase the market-share (Tice, 2011). One of the most popular strategies is the use of advertisements, which aids in expanding consumer-base (sales). However, as the demand increases, a firm also has to expand its operations to meet demand (supply-demand factor). Other contemporary strategies are horizontal mergers and acquisitions (Peavler, 2018).
In recent years, many firms have embraced the strategy of merger and acquisitions, which serves two purposes. One of the major purposes pertains to the increase in the market share (abnormally), and the other pertains to competitive edge against rivals because of the shared pool of resources (Goedhart, 2017).
Cable and Wireless Communication have employed the strategy of the merger to increase market share and to augment competitive edge against its rivals. For instance, Cable and Wireless Communications has proposed merger with Columbus International, which is one of the major telecommunication companies that operate in St Vincent and the Grenadines(C & W Communications, 2015).As per projections, this strategic business move will expand the market-share, of CWC, extraordinarily, which may become a serious challenge for rival companies. Therefore, Digicel, one of the competitors, asserted that the merger would establish a monopoly of CWC in the telecommunication industry and market (Jamica-Gleaner, 2015).
The regional regulators are considering the claim and urge, of Digicel, which now faces an existential threat from the merger of Columbus International with Cable and Wireless Communications. (Note: The merger will occur at the Caribbean level)
The probability is that the merger will be accomplished, as already such merger has occurred in Jamaica, which is another Caribbean country, with considerable telecommunication Industry. Such mergers become models for regulatory authorities and subtly influence them to ease their regulations in favors of mergers. However, the results or consequences of mergers also play a major part in regulator’s decision-making (BNamericans.com, 2018).
As per projections, because of the merger, the size of market-share, of CWC, will increase drastically, allowing CWC to sell its products and services to more consumers. This development will not increase sales only, but also it will also increase the ability to influence the market. We have already discussed that producer surplus of a monopolist is usually enormous, and as its supply represents the entire supply of markets; a monopolist can strongly influence prices. Therefore, the merger will not only swell market-share of CWC, but also it will increase its capacity to manipulate the market.
Expansion Policy and Market Power
The expansion is both strategy and instrument, of earning a profit, for Cable and Wireless Communications. In fact, through expansion (mergers), CWC increases its market presence, share, and profit. It is quite evident from the fact that Cable and Wireless Communication operates in various industries and markets of different economies through mergers and acquisitions (Blevins et al., 2017).
The policy of expansion has not only been adopted and implemented at strategic (regional) levels, but also at tactical (local) levels. For instance, CWC is expanding its presence and market-share; though, mergers in Caribbean countries. It has adopted this policy in other economies/industries/markets too,as it’s several objectives. One of the major objectives is that it increases market-presence and share in a short period. For instance, a firm does not have to establish a new unit and advertise, intensely and massively, to increase market presence and share. Through a merger, a firm systematically expands its market size in a brief period. Also, as the supply expands, of a firm, it can dominate the market in various manners. It can manipulate prices to outperform its rivals, which is a huge advantage in a contemporary corporate system, which is highly competitive (Bennett, 2015).
It is quite evident from the outcry of Digicel, which believes that the merger would further slim its profit and eventually it would push Digicel out of the industry/market. We must also acknowledge that it is difficult for large telecommunication companies to operate at almost break-even. It is because investments in telecommunication sector or industry are usually enormous and such investment seeks high-profits. Also, an increase in the market share (expansion of consumer-base) of one organization reduces the profit of another organization and when the profit starts to dwindle at an abnormal rate, it becomes difficult for an organization to operate in Oligopoly industry/market. Therefore, expansion (especially through mergers) has remained a critical element of CWC’s strategy.
Optimal Market and Pricing Strategy
For any firm, which operates in the modern economic system, it is imperative to devise and implement optimal market and pricing strategy. The rationale behind it is that not only an optimal Market and pricing strategy to ensure high profits, but also it facilitates an organization in developing a competitive edge against rivals, which is essential.
For Cable and Wireless Communications, the optimal market and pricing strategy would be to push-out competitors by starting a price war. CWC had the expertise to provide quality products and services, and now it has an expanded infrastructure and market power (Rhoades, 1985). Strategy, about the market and pricing, based on these elements above would ensure the gradual establishment of CWC’s hegemony on the telecommunication industry / market of St Vincent and the Grenadines.
From the systematic scrutiny of evidence and information related to the merger, it is apparent that gradually CWC will establish its hegemony and it will have enormous power to manipulate the market, as feared by Digicel. It will allow the company to experiment with the prices of its products and services, which may translate into higher profits. However, there are some issues related to this strategy.
It is true that the merger is an optimal market strategy, which will allow CWC to devise and implement an effective pricing strategy that ensures a high profit. However, it will affect the evolution of the company in St. Vincent and the Grenadines. It is a fact that competition compels companies to innovate, and because of innovation, structure and production methods of companies evolve, which is not only good for organizations, but also for an overall economy. It is the reason why states or economies are so fiercely against monopolies. The merger, of Columbus Industries and CWC, may increase CWC’s profit in the short run, but in the long run, it will hurt the financial interests of the company. Therefore, expanding through merger, which creates hegemony or establishes a monopoly, is not a prudent or optimal strategy. However, it is a good market strategy, as it muscles down competition and produces margin for error for pricing strategy.
As per my analysis, the optimal market strategy would be a merger and allow competition to thrive to that an extent where it does not seriously hurt the financial interests of CWC. The rivalry will keep CWC attentive and concerned. It would also push CWC to innovate, which is essential as innovation has numerous benefits. This marketing strategy will not push CWC to start a price war, which will hurt CWC in short-term and may benefitin the long run.
Market Share and HII (2015)
Because of the mergers and acquisitions, by the end of 2015; there were only two companies, which were effectively operating in St Vincent and the Grenadines. These Companies were Digicel and CWC.
According to the statistics, of the year 2015, there were 24,606 were fixed telephone lines and 82% of the total were in residential use. Mobile Cellular Telephone subscriptions were around 113,371, whereas mobile cellular subscriptions (prepaid) were around 103,918. Mobile cellular data subscriptions were 42,669.
From the stats, we learn that in the year 2015, the market share of CWC in St Vincent and the Grenadines was 36%; whereas the share of the CWC was 64%. These statistics can use for the calculation of HII(Katje, 2015).
The above pie-chart adapted from Katje (2015), shows the market share of different telecommunication companies. It is apparent that the market share of company Digicel CWC is greater than the rest and this information allows us to calculate HHI for the companies.
As there are only two companies; therefore, it is not hard to infer that rivalry between the two companies would be intense (Lancaster, 2016).
The data about CWC is hard to acquire, as, after the acquisition of Columbus International, Liberty Global acquired CWC. Therefore, we relied on 2015 data for different economics related analysis.
Conclusion
From the study and scrutiny, of evidence and literature, we conclude that Cable and Wireless Communication, which is a Britain based firm, operates in Oligopoly industries and markets. The company, which was established in the 1880s, disintegrated because of challenges, however, as Vodafone subsidiary, it operates in almost all economies of the Caribbean. For this project (academic exercise), we chose St Vincent and the Grenadines.
We learn that the telecommunication industry / market can be identified as almost Oligopoly industry/market. It is true that there are only a handful companies that are operating, and barriers to entry are naturally strong (because of economies scale); however, firms are selling almost identical products and consumer’s consider quality, when take decide to acquire a particular telecommunication product or service of a firm.
It is also apparent that all firms have some influence over the market, which makes them price-maker rather than a price taker.
The market strategy, of Cable and Wireless Communications, in St Vincent and the Grenadines, is of expansion through acquisition and dominance through quality. Cable and Wireless Communications intend to increase its market share and presence through the acquisition of Columbia International. This strategic move will rapidly increase the market presence, share, and power of Cable and Wireless Communications. The increase in consumer base will swell profit, and because of the increase in market power, the telecommunication firm will be able to manipulate prices and muscle down the competition.
The current pricing strategy is based on the quality of product and service. CWC is known for providing quality service and products to its consumers, which provides it with a competitive edge. It also allows the firm to experiment with the price (slight increase); however, because of intense competition, the firm’s demand curve is kinked (upper-portion of the demand curve is flat and lower is steep). Therefore, the room for experiment with price is very small. However, after the acquisition firm will be able to manipulate prices with more ease, as it would have largest market-share and thus the power to influence prices.
References
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