EC180 Economics Assignment Tablet Computers Market Table of Contents Table of Contents2 Brief Introduction3 1. Factors affecting Demand4 2. Price and Income Elasticity6 3. Price Discrimination8 4. Fixed and Variable costs9 5. Scale Economies10 7. Market Structure12 8. Barriers to Entry13 Summary and Conclusion14 References14 Brief Introduction In this report, the market of ‘Tablet Computers’ will be analysed. ‘A tablet computer is a complete mobile computer, larger than a mobile phone or personal digital assistant, integrated into a flat touch screen and primarily operated by touching the screen’ Editors PC magazine (2010).
These products are gaining increased popularity in today’s world. Apple, Microsoft and Lenova are already in this market, with Apple’s popular product, the ‘I pad’ leading the market share. This relatively new market `will be thoroughly investigated using various microeconomic theories and findings. 1. Factors affecting Demand In economics, demand is defined by the desire to own anything, the ability to pay for it, and the willingness to pay (Sullivan & Sheffrin,2003a) The diagram below shows the demand curve. Factors affecting demand would cause a shift in the demand curve.
An increase in demand will cause an outward shift to the demand curve (D1 > D2), thus increasing the market equilibrium price. A decrease in demand on the other hand will cause an inward shift of the demand curve ( D1 > D3), decreasing the market equilibrium price. The diagram proves the ‘Law of Demand’ which states that quantity demanded for a good decreases as the prices increases. The following are the factors that affect the demand of a good or service. * Price * Income * Substitutes: Price of substitutes * Trend * Number of consumers in the market/ population
Price: One of the main factors affecting demand would be the Price of the product or service. There is an inverse relationship between the price of the product and it’s quantity demanded. As the “Law of Demand” says, the quantity demanded for a product decreases as it’s price increases. Therefore the higher the price of tablet computers the lower the quantity demanded. Income: Another major factor which affects the demand for a good would be consumers’ income. The higher the income, the higher the demand as consumers will have more disposable income.
Tablet computers are a relatively pricey and a luxurious good, therefore only consumers with a relatively high income will be able to afford them. Price of substitutes: The price of substitutes of this product would also be a factor affecting the demand for the product. A substitute good offers the same services to the consumer as good A, if the price of a substitute good would increase, the demand for the original good would increase as consumers want to pay the least they can for the same product. Therefore an increase in the price of for e. g. Laptops would cause an increase in the demand for Tablet computers. 2.
Price and Income Elasticity Price elasticity of demand measures the relationship between a change in quantity demanded and a change in the Price. It shows the percentage change in quantity demanded caused by a percentage change in price. This can show the extent of movement along the demand curve. PED = % Change in quantity demanded % Change in price There are a number of factors which can influence the price elasticity of a good: Availability of substitutes- One major factor of influencing the price elasticity of a good would be the availability of its substitutes. The greater the availability, the greater the elasticity.
The availability of substitutes like Laptops and Desktops in this market is quite high, therefore tablet computers have a high price elasticity. Necessity or Luxury- Luxury products tend to have a greater elasticity as consumers don’t actually ‘need’ them. Necassity products on the other hand like ‘tobbacco’ or ‘petrol’ for certain consumers can have a very low elasticity as consumers will be willing to pay a higher price. Tablet computers are a luxurious good, therefore they have a greater price elasticity than for example petrol which could be regarded as a ‘neccassity’ good in today’s world for certain consumers.
Proportion of income required by the item – The higher the proportion of income required by the product, the higher the elasticity will tend to be. This is because consumers will be more careful and hesitant to purchase a good which would acquire the majority of their disposable income. The price of tablet computers can range from around ? 300 to ? 650. Income elasticity of demand measures the relationship between a change in quantity demanded and a change in income. It is measured by the following formulae: YED = % Change in quantity demanded % Change in consumer’s income Normal goods’ have a positive income elasticity of demand, this means that an increase in income will lead to an increase the quantity demanded as well. ‘Inferior goods’ on the other hand have a negative income elasticity of demand. An increase in income will lead to a fall in the quantity demanded for the product/service. Tablet computers are a normal good therefore it will have a positive income elasticity of demand. They can also be considered a luxorious good therefore the demand responds by rising more than proportionate to a change in income. The income elasticity of demand ill be more than +1 so demand for tablet computers would be elastic relative to income. 3. Price Discrimination As cited by Krugman (2003b, p142) ‘Price discrimination exists when sales of identical goods or services are transacted at different prices from the same provider. ’ Firms often use price discrimination as a method of maximizing profits. However there are two main conditions for discriminatory pricing to work 1) Differences in the Price elasticity of Demand between markets: There must be a different price elasticity of demand from each group of consumers.
Firms can then charge a higher price to the group with a price inelastic demand and a relatively lower price on the other hand to the group with a more price elastic demand. 2) Barriers to prevent consumers to switch suppliers: There must be certain barriers to prevent consumers from switching from one supplier to another if the other supplier is offering the same good at a lower price. One common price discrimination method the firm could use for the sale of tablet computers would be the ‘third degree (multi-market) Price discrimination.
This method involves charging different prices for the same product in different segments of the market, it is linked directly to consumers’ willingness and ability to pay for a good or service. The market can be separated by geography, so a higher price can be charged to overseas markets if demand is more price inelastic than in home. In today’s knowledge world, many firms use the internet to price discriminate. Many websites can gather enough information about consumers and their buying habits to give sellers an opportunity for discriminatory pricing.
One example of this would be Dell, ‘which charges different prices for the same product on its web pages, often depending on whether the buyer is a state or local government, or a small business. ’ In this case the same method can be applied to the sale of the tablet computers. 4. Fixed and Variable costs Fixed costs are costs to a business that are constant, they do not vary with the quantity of product/service produced. Variable costs are costs to a business that actually do vary with the quantity of product/service product. Fixed + Variable costs = Total costs Fixed costs: * Land purchased for production of goods, for e. . an industrial factory * Salaries of staff paid on monthly rates, independent of how many hours the employees work. * Advertising: Marketing Campaign for launch of product. * Electrical equipment like lighting or air conditioning which may be kept running even in periods of low activity. Variable costs: * Cost of Raw materials * Salaries of staff paid on an hourly basis, hours can be varied therefore it is a variable cost. * Electrical equipment, as the company grows, the more the plant will be run therefore more electricity will get used which makes this a variable cost. 5. Scale Economies
Economies of scale in economics, refers to the cost advantages that an enterprise obtains due to expansion. A firm can experience reduced averaged costs in the long run by increasing output or ‘expansion’. There are 5 types of internal economies of scale. 1. Technical: Only large firms can afford to invest into expensive quality machinery. This makes them more cost effective by making use of large scale capital technology which brings down cost per unit. New entrants generally don’t have that much capital to start off with, therefore suffer with high production costs and lower efficiency. . Purchasing: This is when firms buy large quantity of raw materials and get them in a lower cost per unit. Large firms in this market like Apple can buy their raw materials in bulk and get discounts from suppliers, thus achieving low production costs. 3. Financial: Larger firms are usually believed to be more trust worthy by the financial markets. They are able to negotiate cheaper finance deals and therefore get better deals at banks. Banks prefer to do business with larger experienced firms as they usually take a bigger loan therefore banks get a bigger interest.
Smaller banks on the other hand can face higher rates of interest on loans. 4. Marketing: Large firms can afford the most effective and expensive types of Marketing whereas new entrant firms could find it difficult to raise enough capital to compete with promotional and marketing methods. At times, incumbent firms can deliberately invest heavily on advertising making it difficult for the new entrants to survive in the market. This is known as ‘market power theory of advertising’ (Moffatt,2008) . 5. Managerial: Large businesses can have specialist managers in every area.
This can lead to much more efficiency therefore lower costs. The market for Tablet computers has an oligopolistic market structure, where a few large firms dominate the market (this is explained in further detail in section 7 of this report). Therefore large firms like Apple, IBM and Microsoft will enjoy the benefits of Economies of scale to a high extent making it difficult for new entrants to survive in the market. 6. Minimum efficient scale and Diseconomies of Scale The minimum efficient scale achieves production of a good at the lower possible point on it’s LRAC curve.
Long run average costs are minimized at this point, and it is not possible for the firm to produce the good at any lower cost. The efficiency is maximized at this point. The MES can be used to determine the most likely market structure of the market. For example, if the MES is small compared to the overall size of the market, then will then be a large number of firms in the market. The market will be more contestable and firms would behave in more of a perfectly competitive manner. (Carlton and Perloff, 2005) Diseconomies of scale occur when a business grows so large that the costs per unit increase.
This often only happens in extremely large scale production. A business can experience difficulty in communication as it expands. There are more workers and more managers. Communication has to be passed down many levels of hierarchy; therefore messages can be distorted leading to workers being unsure of what they have to do. Multi-national firms have production in different countries which also makes communication more difficult within the business. To avoid this problem very large businesses often de-merge and break themselves into smaller units.
Workers down the order can feel demotivated playing a small role in a very large firm. They can feel unimportant which eventually leads to more sick days off and therefore decreasing efficiency of labour. In the case for the tablet computer market, there are already very large incumbent firms like Apple and Microsoft who have grown and diversified themselves into different markets. These firms are so large that it is likely that they have diseconomies of scale. New entrants can therefore see this as an opportunity. The diagram below illustrates Economies and Diseconomies of scale.
It is however important to understand that not all firms will experience diseconomies of scale. Therefore it is possible the LRAC (Long Run Average Costs) curve is just downward sloping. 7. Market Structure Market structure are the competitive characteristics of the market. They are used to determine the potential for profits and market efficiency. There are four main types of market structures: perfect competition, monopoly,oligopoly, and monopolistic competition. ’ The market structure of a firm is determined by various factors.
A summary of the four basic types of markets in and their key characteristics is shown below using this table. Charectristics| Perfect Competition| Oligopoly| Monopoly| Monopolistic Competition| Number of firms| Many| Few| One| Many| Type of product| Homogenous| Differentiated | Limited| Differentiated| Barriers to entry| None| High| High | None| Economic Efficiency| High | Low | Low | Low| After analysing the tablet computer market and its characteristics, the market structure of tablet computers seems to be oligopolistic. An oligopoly is a market structure in which a market is dominated by a small number of sellers.
The tablet computer market currently seems to be dominated by large firms like Apple, Lenova/IBM, HP who own a large percentage of the market share. As mentioned earlier in this report, the barriers to entry in this market are fairly high which is one of the characteristics of an oligopolistic market. At the moment, 8. Barriers to Entry Barriers to entry are obstacles that make it difficult for new entrants to enter the market. The higher the barriers to entry, the lower the threat of competition. The main barriers for the tablet computers market would be the following: 1.
Economies of Scale: As mentioned previously in Section 5 of this report, economies of scale could also be a barrier to entry in this market. Large incumbent firms like Apple and Microsoft have significant cost advantages which allow them to produce their tablet computers at lower costs than small or new entrant firms. Therefore new entrants would have lower profit margins making it difficult to survive in the market. 2. Customer Loyalty: Another advantage the incumbent firms would have in this market would be having customer loyalty.
Large firms like Apple and Microsoft already have existing customers in the market who are loyal to their brand. Especially with the presence of Apple which definitely has high customer loyalty. This would make it extremely difficult for a new firm to enter the market as many of the consumers would still rather stick a trust and more experience brand. 3. Sunk Costs: One major barrier to entry would be the existence of ‘Sunk Costs’ in this market. Sunk costs are the costs to a business which cannot be regained when exiting a market.
A new entrant to the tablet computers market would have to invest heavily in Advertising and Promotion methods. In case the firm doesn’t succeed and decided to exit the market, the cost of this investment cannot be retrieved. The sunk costs involved in this market could be high due to large incumbent firms like Microsoft and Apple’s existence. 4. Advertising – Apart from advertising being a sunk cost, it can also play another role in make it difficult for new entrants. This was explained in Section 5 of this report ( Market power theory of advertising ) 5. Patents Summary and Conclusion
The market for tablet computers is an oligopolistic market. Large firms like Apple, HP an IBM seem to be owning the majority of the market share which could it make it very difficult for new firms to enter and survive in the market. The market is also relatively elastic which could limit profits. In addition the existence of high barriers to entry and economies of scale benefits enjoyed by incumbent firms will not help new entrants. Price discrimination is possible for this product, however only to a certain extent. References Carlton D. and Perloff M, “Modern Industrial Organization” Fourth Edition, 2005 Editors PC Magazine. Definition of: tablet computer”. PC Magazine. Accessed April 17, 2010. Krugman, Paul R. ; Maurice Obstfeld (2003). “Chapter 6: Economies of Scale, Imperfect Competition and International Trade”. International Economics – Theory and Policy (6th ed. ). p. 142. Sullivan, Arthur; Steven M. Sheffrin (2003a). Economics: Principles in action. Upper Saddle River, New Jersey 07458: Pearson Prentice Hall. pp. 79. Sullivan, arthur; Steven M. Sheffrin (2003b). Economics: Principles in action. Upper Saddle River, New Jersey 07458: Pearson Prentice Hall. pp. 157.
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