In this week’s discussion you assume the role of CEO of a company. In anticipation of the upcoming quarterly disclosure of profits, you prepare your Board of Directors for the pressure that cost-push inflation is having on profits. There will be some erosion of profits.
For this discussion, assume the role of CEO of one of the following hypothetical companies:
- All America Grocery Inc. We serve communities in the middle of the income market, providing low prices for all basic grocery needs. Our modest-income consumers expect good deals on good quality foods. The Covid-19 pandemic has put upward pressure on the price of everything we sell. Cost-push inflation from multiple sources is impacting our operating cost and our cost of goods. We are both fortunate and unfortunate that the price elasticity of demand for food is .20.
- Very Big US Auto. Very Big US Auto is one of the oldest and largest manufacturers of autos in the United States. Very Big US Auto has an international supply chain and is highly dependent on components manufactured abroad and assembled in the United States. Costs are rising on all aspects of production across the industry. Very Big US Auto is seeing inflationary pressure in everything we use: labor, materials, components, and computer chips. On the demand side, Very Big US Auto knows that demand is relatively elastic with a price elasticity of demand of 1.2. But we also know that the pandemic has made some transportation substitutes less acceptable.
- Big Time Entertainment. Big Time Entertainment is a nationwide firm providing movies, concerts, arcades, and other in-person entertainment venues such as bowling and roller skating. Our operations have been heavily impacted during the Covid-19 pandemic, including continuing limits on number of guests and new costs associated with safety measures for both staff and customers. We are now reopening but facing a continued cost-push inflation. We also face uncertainty as to the potential for additional shutdowns. Customers are fearful, and the guidance on operating our facilities means we are operating far below our optimal number of patrons to cover the higher cost of everything. Price elasticity of demand is 1.6, and we are also faced with competition from online entertainment and gaming, which are not experiencing many of these cost pressures.
In your discussion post, address the following prompts within the context of your chosen hypothetical company of which you are the CEO:
- Is the demand curve for your product relatively elastic, inelastic, or unitary elastic? Demonstrate this for your company’s product by how much the quantity demanded will change if you pass on the 10% increase in cost. In other words, prepare a forecast showing by what percentage the quantity demanded will change if your prices are raised by 10%. You must provide calculations showing the percentage change in quantity demanded.
- Will you pass on most or all of the cost increase to your customers? Why or why not?