CHAPTER 4 - ESTIMATING DEMAND
Knowing (estimating) the demand for its product is crucial for a firm. Why?
We have been using demand equations (Q
= 580 - 2P) without indicating exactly where they come
from. In CH 4, we discuss how a firm can
for its products. It the responsibility of a
firm's business economists and forecasters (or external economic consultants) to estimate and construct
demand equations for a firm's products, for example:
= 25 + 3 Y + P
This assumes that we can accurately predict the firm's TR and Profits at various prices and income
levels. Estimating demand and making forecasts brings up 3 issues / questions:
1. What is the best (most accurate) forecasting equation?
2. How much does the equation explain or NOT explain? How accurate is the forecast? What about
the size and likelihood of forecast errors?
3. What are the profit consequences of forecast errors?
We focus on Issue #1 in this chapter.
SOURCES OF INFORMATION TO ESTIMATE DEMAND
can be used to ask consumers directly about buying behavior, face-to-face,
telephone, direct mail, Internet, at checkout, etc. For example, the Houston-FL airline could ask a
randomly selected, statistically valid group of consumers about their travel plans, prices, services,
convenience, feelings toward the competitor, the impact of a recession/expansion on travel plans, etc.
From this survey, the firm could possibly construct a demand equation like the one above.
COURTYARD BY MARRIOT
: Classic example of how the consumer survey method was used to
design a new type of hotel - informal, small, high-value hotel for price sensitive business and vacation
travelers. See pages 138 - 139 for the features that were considered. The final design was actually
much different than what Marriot envisioned. Courtyard Marriots have been successful and were
subsequently copied: e.g. Holiday Inn Express.
1. Sample bias
occurs when the sample is NOT RANDOM.
Political poll, asking only
Republicans or Democrats. Poll on school vouchers, asking only school teachers, etc. 1936 election
poll predicted Alfred Landon (R) would win over Roosevelt.
2. Response bias
occurs when consumers' answers are biased, e.g. giving answers the questioner wants
to hear, or overestimating income, or underestimating age, etc.
ECN 469: Managerial Economics
Professor Mark J. Perry