Demand estimation

Elasticity estimation is what we want.

To get Arc elasticity, we need discrete data points To get point elasticity, we need a demand function specified.

How do we get a specific demand function?

Can specify a relationship as observed in past data. With the hypothetical data given earlier, what kind of a demand function can be specified?

The specification should explain the data. How is it done? - explain with a scatter diagram.

With many independent variables? Resort to statistical techniques.

- Regression.

Steps

STEPS: Listing of variables Model specification Data collection

Run the regression

Check the results

Demand function

Demand = f( price, income, prices of related goods, etc.) Functional relationship to be specified and estimated Linear or non-linear Linear- Regression technique.

Qx= a + bPx + cI + dPr + .. Regression helps us estimate the values of a,b,c,d

An Example

Demand Estimation for Pizzas in the U.S Variables: Demand for Pizzas-Dependent variable; Independent Variables: Own Price (X1), Avg Annual Tuition Fee(X2), Price of Soft drink(X3),Location(X4) Linear Model: a+bX1+cX2+dX3+eX4 Data: Time series or cross section-Past data

Results:

Q = 38.5 0.16X1+ 0.02X2 - 0.05X3 + 2.67X4 Interpretation

Coefficient of Determination : R2

Tests of Statistical significance

Results continued

Elasticity estimation Base values X1: 1.75; X2: 15000; X3:0.75; X4(urban):0 Q = 7.05 Own Price elasticity: -0.16*175/7=-4 Tution Fee Elasticity: 0.02*15/7=0.04

Compute the cross price elasticity.

Valid for what range?

Important because elasticity varies along a linear function.

More Estimations:

Demand for 45-inch colour TV sets sold by Computronics Q=1000 2P+0.0003A+ 0.001I +0.000001N+0.1Pr

Non-Linear Specifications: Exponential form: aXb Yc Zd Linearize using logs Lg a +b lgX + c lgY + d lgZ

Data to be fed in as logs.

* The coefficients are the elasticities

Coefficients are elasticities

S = B* A * P S/ A = B * A -1 * P S/ A = S * / A = S/ A * A / S

Example of Log-Linear estimation: Demand for ceylon tea in the US. Log Q = b log Pc+c logPi+ d log Pb + eLog Y Where, Pc is the price of SriLankan tea; Pi is the price of indian Tea Pb is the price of Brazilian coffee; Y is income

Results: -1.481Log Pc+1.181 Log Pi+0.186log Pb+ 0.257 log Y Interpretation of coefficients as Elasticities.