Econ Module 2

Question 1

Survey

Answer 1

A form of research conducted by companies to determine consumer preferences; a survey aims to gather quantifiable data from a sample of a population of interest by having respondents fill out certain information (e.g. about themselves, their behaviors, etc) and answer questions.

Surveys typically result in large amounts of quantifiable data, while focus groups can provide more nuanced, qualitative information.

Question 2

Focus Group

Answer 2

A form of qualitative research conducted by companies to determine consumer preferences; in a focus group, individuals are gathered and asked questions regarding their opinions and perceptions of a product.

Question 3

Auction

Answer 3

A process of buying/selling products and services in which items are bid on and then sold to the ultimate buyer at a price determined by the bids gathered.

• Auctions are useful tools for a seller who has little information about consumers’ WTP, but can result in uncertainty and delay for consumers. As a result, fixed prices may be preferred to auctions in certain settings.
• Auctions are effective when a seller needs to sell an item by a certain date. A seller could use a fixed price when he or she is not under time pressure.
• Auctions are good for items for which there is not an easily available market price. The auction format helps the seller to reveal the top buyer willingness to pay.
• An auction will be especially effective if buyers’ valuations of the item are close together. This ensures that the sale price will be close to the WTP of the second highest bidder (based on the Revenue Equivalence Result).

Question 4

Vickrey auction (Open Outcry Auction)

Answer 4

A type of auction in which buyers submit sealed bids (not visible by other bidders), and the buyer with the most attractive bid wins, and the transaction occurs at the second-best price that was bid.

Question 5

Sealed first-price auction

Answer 5

A type of auction in which buyers submit sealed bids (not visible by other bidders), and the buyer with the best bid (the highest bid for purchasing a good or lowest bid for offering services) wins, the transaction occurring at the price the winner bid.

Question 6

The Revenue Equivalence Result

Answer 6

The Revenue Equivalence Result states that, under certain general conditions, each of these types of auctions should result in approximately the same revenue for the seller. This revenue will be approximately equal to the 2nd highest bidder’s WTP.

Question 7

Winner’s Curse

Answer 7

A phenomenon that occurs in auctions in which the winner of the auction will tend to pay more for a product or service than its true value; the Winner’s Curse tends to occur in auctions for products worth about the same amount to each bidder.

Question 8

Revealed Preference

Answer 8

The economic idea that consumer preferences can be inferred from consumer behavior rather than what consumers’ claim to prefer/value; an approach to determining consumer willingness to pay based on past consumer decisions.

Question 9

Conjoint Analysis

Answer 9

A form of market research based on the principle that a product can be broken down into a set of consumer-relevant attributes; a specialized survey design, which determines consumers’ preferences for individual features of a product by first ranking the importance of features and then assigning values to each product attribute based on those features.

Question 10

Advertising Elasticity of Demand (AED)

Answer 10

A measure of the responsiveness of consumer demand for one product or service to a change in advertising expenditures for that product or service; mathematically calculated as the percentage change in quantity demanded for product X, divided by the percentage change in advertising devoted to product X.

Question 11

Advertising

Answer 11

Firms can advertise for a product, thereby influencing consumers’ WTP and shifting the demand curve outward. Advertisements can be persuasive or informative.

Question 12

Advertising its own product

Answer 12

Advertising its own product shifts the demand curve facing a firm to the right.

Question 13

Advertising an industry

Answer 13

Advertising an industry is more beneficial when a firm has few important competitors: this will shift the demand curve for the entire industry to the right, and since the firm has a large share of the market, most increased purchases in the industry will benefit the firm.

Question 14

Running negative advertisements about a firm’s competitor

Answer 14

Running negative advertisements about a firm’s competitor will shift the demand curve for the competitor’s product to the left and (if the competitor’s product is a substitute for the firm’s own product) shift the curve demand for the firm’s product to the right.

Question 15

Substitute

Answer 15

A product or service that can replace another product or service; mathematically, the combined willingness to pay for two products that are substitutes is lower than the sum of the willingness to pay for each individual product (i.e. you wouldn’t be willing as much to buy both a computer and a tablet as you would to buy either a computer or a tablet separately).

Firms can increase demand for their products by making substitutes less available or more expensive, or by making complements more available or cheaper.

Question 16

Complement

Answer 16

A product or service that can increase willingness to pay for another product or service; mathematically, the combined willingness to pay for two products that are complements is higher than the sum of the willingness to pay for each individual product (i.e. you’d be willing to pay more for both peanut butter and jam together for your sandwich than for each separately).

Firms can increase demand for their products by making substitutes less available or more expensive, or by making complements more available or cheaper.

Products that greatly complement each other and would have a negative cross-price elasticity of demand. Both of these products are also typically advertised, but less so than alcohols like wine.

Question 17

Network Effects

Answer 17

A situation in which the value of a product or service is dependent on the number of buyers and sellers; the more buyers and sellers of the product, the greater the network effect and the more value the product creates.

Network effects can be a function of a product’s intrinsic technology (e.g., PC operating systems), or they can be created by firms (e.g., trading cards). For products exhibiting network effects, a firm may wish to price low initially in order to encourage early adopters - and then increase its price later once the product commands a large installed base (and network effect).

Question 18

Confirmation Bias

Answer 18

The tendency to look for, notice and favor information that confirms one’s pre-conceived notions or beliefs, while also discounting information that goes against one’s beliefs; helps explain why investors can be overconfident, politicians might cherry-pick pieces of evidence to support their own stances, or scientists may come to wrong conclusions by only searching for evidence that supports their hypothesis.

Question 19

Randomization

Answer 19

Randomization helps control for unobserved variables not being measured in the experiment.

Randomization makes it so that the effect of other individual-specific variables, should, on average, cancel out across the treatment and control groups.

Randomization helps to eliminate the adverse effects of sample selection/selection bias.
By randomly creating groups, experimenters can avoid biased samples that may result, for example, when individuals select into groups based on observable differences.