Economic Models and Price Elasticity

Questions: 1.Economic models are false and so government should ignore their predictions.  Explain, discuss and evaluate the accuracy of this statement? 2.Using the economics or other literature to identify estimates of the price elasticity of demand for at least three different products. Provide full citations for the Employed literature. Comment on the magnitudes of these estimates in relation to the standard economic determinants of the price elasticity of deman? Answers: 1. Economic Models and Price Elasticity of Demand Estimates This section presents a comprehensive discussion and evaluation of the accuracy of the statement, Economic models are false and so government should ignore their predictions. The expedient fact regarding economic models is that they all remain wrong in an austere sense, if only economic models are incomplete (Krugman, 2009). A close and thorough examination of any economic model invariably reveal that the model differs from what it denotes. For example, a newspaper article regarding a murder will only inform the reader of the name, age and sex of the victim with a fortunate omission of exact position of knife wounds alongside aggregate blood volume spilt on floor. It will also deliberately omit details kept secret to help in the identification of the murderer. One should never be astonished to realize that the underlying model of interest is incomplete and, hence false. Moreover, a models falseness can be determined with the minimum effort possible (Krugman, 2009). It is possible to acknowledge numerous significant ways in which a particular model varies from that which it denotes. Nevertheless, the fact that any given model is false does not imply that a model is useless. False models have been continuously utilized in economics. Since there is never a single model that is 100% correct, it is tantamount to refusing to use any given model at all where one rejects a model merely because it is false. Useful models can be distinguished from useless models via scientific methods. Models remain useful due to their ability simplify phenomena, however, models are false for this same reason (Azzopardi, 2014). Models are simplification/abstractions and hence they are false or incomplete. The manner in which these models are simplifications might never be essential for given purposes but the simplification may indeed make models useful. For example, models can be used to predict income exactly. In this case, one is required to know exactly number of products a company will make and sell in the coming year and the price fetched. Such predictions anchor economic details on the manner individual prospective customer will behave in the forthcoming year and so forth (Azzopardi, 2014). Since such facts remain unknown during the preparation of a budget, it remains inaccurate or false. Budgets are, however, universally used by the government notwithstanding faults of the models. A budget will enable the corporation to decide and plan and, hence, achieve higher profits than it would be feasible in the absence of budget (Lampe, M., Willenbockel et al., 2014)). From the above discussion, the statement in my view is partially accurate at the first part that economic models are all false but inaccurate on the second part that they should be ignored. The accurate position is that economic models are false but are useful and hence should never be ignored by the government (Szreter, 2015). 2. Estimates of Price Elasticities Economic theory fundamental building block is that increasing (or decreasing) price of a product decreases (or increases) demand for a product. The Price Elasticity describes extent to which utilization of a commodity declines or increases after a rise or a drop in its price. Where the price of demand for a commodity were very low (inelastic), demand would decline or rise solely slightly in reaction to changes in prices (Tomek Kaiser, 2014). For instance, where a price of a product is about 0.1, demand for this commodity would drop by merely 0.1% for every a percentage surge in price. Demand for a commodity with high PED would drop much more abruptly in reaction to increases in prices (Galperin Ruzzier, 2013). The following list gives the summary of the identified estimates of price PED for different products. Air travel 2.4 Automobiles 1.2 Cigarettes 0.3 Coffee 0.3 Foreign travel 1.8 Housing 1.0 Motion pictures 3.7 Restaurant meals 2.3 Salt 0.1 Shoes and footwear 0.7 Specific brands of coffee 5.6 Water 0.2 The following graph gives a further understanding of price elasticities of demand Commenting on the Estimates Magnitudes The comments on above estimates are made with respect to standard economic determinants of price elasticities of demand. The PED of a product is largely determined by the substitute goods availability (Ahern, 2014). A product with more close substitutes will probably have a higher price elasticity of demand. The higher percentage of income of a consumer utilized in paying for product, the higher elasticity tends to be noted. The non-durable products higher elasticities are dictated by the longer a change in price holds. The lower price elasticities are dictated by the more necessary a good becomes (Mumbower, Garrow Higgins, 2014). The PED of water, air travel and salt are selected from the above list to comment on their magnitude in relation to determinants of their price elasticity of demand. Common determinants of PED include substitute goods availability, proportion of purchasers budget consumed by product, degree of necessity, duration of price change, breadth of good definition, and brand loyalty (Powell et al., 2013). From the above list water (0.2) and salt (0.1) are necessity goods. They, therefore, have the least magnitude comparatively in relation to price elasticity. This is because the greater the necessity of a good, the lower the price elasticity of demand. This means that consumers will always attempt to buy necessary products. On the other hand, air travel has a higher price elasticity because it is a luxury product and hence tends to have greater magnitude in terms of price elasticity (Boland, 2014). Coffee initially had a lower degree of necessity but it is a habit-forming product and hence has become necessities to consumers and will have a lower magnitude thus the 0.3 value (Rios, McConnell Brue, 2013). However, it can be seen from the list that the price elasticity of specific brands of coffee has a higher price elasticity of 5.6. This means that it has a lower degree of necessities and hence people will substitute it with other close substitute when the price rises. References Ahern, K. R. (2014). Do common stocks have perfect substitutes? Product market competition and the elasticity of demand for stocks. Review of Economics and Statistics, 96(4), 756-766. Galperin, H., Ruzzier, C. A. (2013). Price elasticity of demand for broadband: Evidence from Latin America and the Caribbean. Telecommunications Policy, 37(6), 429-438. Krugman, P. (2009). How did economists get it so wrong?. New York Times, 2(9), 2009. Rios, M. C., McConnell, C. R., Brue, S. L. (2013). Economics: Principles, problems, and policies. McGraw-Hill. Mueller, N. D., West, P. C., Gerber, J. S., MacDonald, G. K., Polasky, S., Foley, J. A. (2014). A tradeoff frontier for global nitrogen use and cereal production. Environmental Research Letters, 9(5), 054002. Chen, Y., Cook, W. D., Kao, C., Zhu, J. (2014). Network DEA pitfalls: Divisional efficiency and frontier projection. In Data Envelopment Analysis (pp. 31-54). Springer US. Boland, L. A. (2014). The Methodology of Economic Model Building (Routledge Revivals): Methodology After Samuelson. Routledge. Azzopardi, L. (2014, July). 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Estimating flight-level price elasticities using online airline data: A first step toward integrating pricing, demand, and revenue optimization. Transportation Research Part A: Policy and Practice, 66, 196-212. Powell, L. M., Chriqui, J. F., Khan, T., Wada, R., Chaloupka, F. J. (2013). Assessing the potential effectiveness of food and beverage taxes and subsidies for improving public health: a systematic review of prices, demand and body weight outcomes. Obesity reviews, 14(2), 110-128.