HBX- Economics 2 Flashcards
Surveys: Advantages/Disadvantages
Advantages
- You can get large-scale data.
- You can survey a broad pool of consumers.
- You can elicit aggregate preferences.
- You can do it relatively cheaply.
Disadvantages:
- People can lie! Ace tkts
- The way questions are framed. Southwest Ex 2 below
- One of the most common mistakes in surveying is to survey the wrong people. Boon survey in the mall- ex 3
- The problem with surveys is that you will get answers, but you won’t necessarily know what they mean.
Ex: How to price Apple’s new product- an iPid.
???? Don’t know what it is yet! And people don’t know what it’s worth!
“A lot of times, people don’t know what they want until you show it to them.” Henry Ford went a step further nearly 100 years earlier: “If I had asked people what they wanted, they would have said faster horses.”
Ex 2: Should Southwest Airlines take the results of the survey to mean that they should start offering free meals on their flights? Why or why not?
It’s not what Southwest’s business model is! To understand this, think about what makes travel on Southwest Airlines so attractive to its customers: low fares, frequent arrivals and departures, and few delays. This is what Southwest competes on—relentlessly.
Instead say: “would you rather have free meals on board or $20 lower fares?” Or, “would you like to have free meals on board if it meant 30% less frequent departures?” Framed that way, the answers might suddenly be quite different, and more informative.
Ex 3: Boon Technologies wants to gauge demand for its new office productivity application. The company surveys a random group of people at a downtown mall on Wednesday in the middle of the afternoon, offering them a choice of either a free one-month trial of the new software or a $50 gift certificate good anywhere in the mall. Can Boon Technologies conclude that 90% of their target consumers would not be willing to pay $50 for their product? Why or why not?
Is the following statement true or false?
When administering a survey, the most important thing is how many responses one gets, not whom those responses are from.
False
It is important to survey the correct group (e.g., existing consumers vs targeted others, etc). Getting a large number of responses from a biased customer group may be useless.
- A respondent who said $100 is surely willing to pay more than a respondent who said $50.
- No one’s true willingness to pay is above $100.
- The true average willingness to pay of respondents is $75.
- The true average willingness to pay of respondents could be greater than $80.
- A respondent who said $100 is surely willing to pay more than a respondent who said $50.
- Consumers may lie about their WTP, or they may not, and different consumers’ responses may be inaccurate to different degrees.
- No one’s true willingness to pay is above $100.
- Respondents have an incentive to lie, so it is possible that some of them have a WTP above $100.
- The true average willingness to pay of respondents is $75.
- Respondents have an incentive to lie, so we cannot draw conclusions about their true WTP.
-
The true average willingness to pay of respondents could be greater than $80.
- Respondents have an incentive to lie, so it is possible that their true average WTP is higher than indicated by their responses.
You run an ice cream chain, and decide to conduct a survey to gauge which flavors your customers prefer. You ask the respondents to rank three flavors: vanilla, chocolate, and strawberry. The results are:
50 people ranked: (1) vanilla (2) strawberry (3) chocolate
100 people ranked: (1) chocolate (2) vanilla (3) strawberry
What proportion of the respondents prefers vanilla over chocolate?
33%
33% of respondents ranked vanilla higher than chocolate, and because we have asked customers their relative rankings, rather than their true WTP, they are unlikely to lie.
You want to market your brand of apparel to a younger demographic. To find out more about consumers’ tastes, you are thinking of conducting a survey. Which type of survey would be most effective in this case?
- A survey of your customers asking which of your products they like best
- A survey of your customers asking which products they would like to see more of
- A survey of local teenagers asking how they choose which products to purchase
- A survey of a representative slice of the general population asking which types of products they prefer
A survey of local teenagers asking how they choose which products to purchase
- Since the goal is to target a younger demographic, the survey should focus on younger respondents rather than existing consumers or the general population.
Advantages of a Focus Group
- you can ask follow-up questions.
- You can get more detail.
- You can pursue your hunches.
- You can rephrase the question to emphasize a different aspect of it, all in real time.
The best market research tends to use _______
The best market research tends to use both surveys and focus groups.
Surveys can provide large amounts of information and that information is in a consistent format, so it can be analyzed statistically. Focus groups provide more detail and nuance, and the questions can be adjusted in real time. They give you a chance to quickly find out if respondents are misunderstanding the survey questions.
Focus groups can yield rich qualitative data, but surveys have an advantage of large-sample quantitative data that can be more easily analyzed. Focus groups are much more time-consuming than a simple survey. Furthermore, it requires more skill, training, and experience to run them well. In contrast, a survey can easily be done over the web or on the phone.
Selection Bias
In sampling and survey design, selection bias occurs when the sample under consideration is not representative of the population of interest.
Only choosing customers for surveys that already use your product. In sampling and survey design, selection bias occurs when the sample under consideration is not representative of the population of interest.
Ex:
- Car Dealership- reachout to people that DIDN’T buy the car
- Airline- People that fly similar routes, but never choose your airline.
Would you want a survey or focus group to answer the question below.
TO REDUCE CONSUMER MISREPRESENTATION OF WTP
Focus Group
Since focus groups allow for follow-up questions, it is harder to misinterpret participants’ responses.
An airline conducting a focus group learns that consumers would rather have more frequent delays in flights if it meant that there would be more flights scheduled every day on a given route. What can the airline do with this information? Select all that apply.
- Determine that its passengers will, on average, welcome more frequent delays in exchange for more scheduled flights.
- Ask follow-up questions to determine the length of delays that focus group participants would be willing to tolerate in exchange for the more frequent flights
- Design a follow-up survey asking more consumers how they would make tradeoffs between on-time departures and more scheduled flights.
- Determine that its passengers will, on average, welcome more frequent delays in exchange for more scheduled flights.
- The focus group is probably too small a sample size for the airline to draw this conclusion from.
-
Ask follow-up questions to determine the length of delays that focus group participants would be willing to tolerate in exchange for the more frequent flights
- This is one of the correct answers. Focus groups facilitate immediate follow-up questions to learn more from participants. The third answer is also correct.
-
Design a follow-up survey asking more consumers how they would make tradeoffs between on-time departures and more scheduled flights.
- This is one of the correct answers. A follow-up survey would help the airline determine whether the results of the focus group can be generalized to the overall population. The second answer is also correct.
What 2 Problems do auctions solve….
- getting consumers to truthfully reveal their willingness to pay and
- setting prices.
In other words, auctions facilitate transactions in a way that maximizes the “gains from trade” between buyers and sellers. The product is sold to the consumer whose willingness to pay is the highest.
Name all types of Auctions
- the “open outcry”/english auction auction, where the auctioneer opens the bidding with a minimum price and then each bidder can increase his or her bid. It’s the usual way to sell artwork or rare antiques. It’s also how most charity auctions work.
- A second common approach to auctions is where the bids are hidden. In a so-called Vickrey auction/”sealed-bid second-price auction”.(named after Columbia University Professor William Vickrey), the highest bidder wins the item, but only pays the amount of the second-highest bid. Sounds weird? It’s actually more common than you think.
For example, Google AdWords uses a generalized second-price auction mechanism for multiple goods (slots). eBay auctions are also quite similar to Vickrey auctions. After each bid is placed, the auction continues until the highest bidder wins the item and pays roughly the second-highest bid. (One difference from a typical Vickrey auction, however, is that bids can be adjusted as the auction plays out. Therefore, eBay is sort of a cross between an open outcry auction and a Vickrey auction). -
Sealed first-price auction- the winner pays her own bid, rather than the second-highest bid. this is exactly the same as the Vickrey auction, only now the winner really has to pay what she bid, not the second-highest bid. Sealed first-price auctions are also common in practice.
For example, think of buying real estate. It’s also often used in selling oil and gas tracts.
Under a sealed second-price auction, buyers have every reason to bid truthfully: because the auction charges the winner not her own bid, but the second-highest bid! But in a first-price auction, it doesn’t pay to bid exactly your valuation. If you do, and you win the auction, you’ll have to pay your bid, which means that you’re guaranteed to capture zero value.
So the revenue in a sealed first-price auction is approximately the same as the revenue in the English auction or the Vickrey auction- In fact, this is a very general, and famous, result about auctions. (For natural reasons, it’s called the “revenue equivalence result,” and it applies to every auction where each buyer’s willingness to pay is independent of each other.
English Auction Details
“Open outcry”/English auction
- at the end of the auction, the seller knows exactly the willingness to pay of all buyers except one—the highest bidder.
- As more buyers enter the market, the auction performs better and better. With only a few bidders, there’s a good chance that the second-highest WTP (and therefore the highest bid) is still well below the winner’s WTP. The seller might have left a lot of value on the table, though he could never know whether he had or not
An art collector is auctioning off three paintings. He has decided to use a sealed-bid second-price auction. The buyers attending the auction are the following:
- For painting 1: One buyer with a valuation of $100k, and one buyer with a valuation of $120k.
- For painting 2: One buyer with a valuation of $90k, and one buyer with a valuation of $200k.
- For painting 3: Two buyers with a valuation of $110k.
What is the correct ranking of the revenues the collector will receive for the three paintings?
Painting 3 > Painting 1 > Painting 2
- Each painting will sell at the WTP of the second highest bidder.
An artist is selling her latest painting. She knows that there are three interested buyers, who value the painting at $500k, $700k, and $800k, respectively. Which of the following methods will generate the most revenue?
- An English (open-outcry) auction
- A Vickrey (sealed second-price) auction
- A fixed price of $750k
- An English (open-outcry) or a Vickrey (sealed second-price) auction, either of which will yield the same revenue.
An English (open-outcry) auction
- The English auction will lead to revenues of $700k
A Vickrey (sealed second-price) auction
- A Vickrey auction will lead to revenues equal to the second-highest valuation ($700k)
A fixed price of $750k
- The painting will sell at this price, bringing in $750k of revenue.
An English (open-outcry) or a Vickrey (sealed second-price) auction, either of which will yield the same revenue.
- Although these two auctions will result in approximately the same revenue, neither of them will in this case maximize revenue.
if auctions of different types yield the same revenue, why bother having three different types of auctions?
Well, in practice, different auction types can sometimes yield different results.
- One of the key assumptions that revenue equivalence depends on is that the buyers’ valuations are independent of each other. The assumption of independent WTP is also called the “private values” assumption. This means that each bidder’s valuation of the item is his or her own. It is not correlated with how much others would be willing to pay for the same item.
- This also means that as a buyer, you don’t get any additional useful information by knowing how others value the item - that won’t change your mind about how you value it.
If a bidder’s valuation for an item is influenced by how much others value it, then the ______ auction will typically generate more revenue.
If a bidder’s valuation for an item is influenced by how much others value it, then an auction that allows the bidding to be played out over time, such as the English auction, will typically generate more revenue than sealed bid auctions.
Seeing others bid high for the item might convince you that the item is worth more than you thought and you might be willing to place a higher bid than you did at first.
When is it better to use auctions vs fixed prices for a seller?
- To start, there’s the issue of how informed sellers are about buyer valuations: if the seller knows a lot about WTP, there’s a far better chance he knows what price to directly set. On the other hand, the less information he has about the demand curve, the more sense it makes for a seller to run an auction. As we saw before, most private value auctions generate revenue in the amount of the second-highest bid, which is pretty good if the seller doesn’t know much about what motivated the highest bids.
- Whether an auction is likely to generate more revenue than a fixed-price sale is the time it takes. In a fixed price sale, the seller gives the buyer the option to buy the item at a given price, usually immediately. If the buyer chooses to purchase the item, she knows almost immediately whether or not she will receive it. In an auction, however, the buyer likely will not learn whether she will receive the item until the very end. So auctions will be more effective when buyers are not time-constrained. Otherwise their constraints or their impatience might make them decide to buy what they want elsewhere rather than wait to see how an auction plays out. Here’s a recent advertisement highlighting that point.
If a customer wants a product fast, fixed prices are better - Another important consideration is how different the buyers’ WTPs are. Remember the revenue equivalence result? An auction will generate more revenue (and will be more likely to do better than a fixed-price sale) if the buyers’ valuations are relatively close together, since the highest WTP and the next-highest WTP will be close together. As a result, an auction will lead the highest bidder to bid closer to his true valuation. If there are large differences in WTP across buyers, an auction may not be particularly effective in driving up prices.
- Fourth, we already saw that several different kinds of auction all yield practically the same revenue if buyers’ valuations are private, but that some types are more effective (for the seller) than others when the various buyers’ valuations are interconnected. For example, if the buyers include experts to whom others will be looking for clues to what is more valuable than they had thought, bidding is likely to go higher than it would have otherwise—which is all to the benefit of the seller. So if the seller knows that buyers’ valuations are interdependent, he might want to use an open outcry auction.
How to Avoid the Winner’s Curse
One way to avoid the winner’s curse is that in such situations you always want to bid lower than your appraiser’s estimate.(HOW MUCH TO SHAVE IT DOWN DEPENDS ON YOUR KNOWLEDGE of your competitors, formulas, etc…)
Winner’s Curse- 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.
The reason that auctions are effective at truthfully revealing buyer WTP is because of ____
The reason that auctions are effective at truthfully revealing buyer WTP is because of competition: bid much lower than your true WTP and you risk losing the product. Bid too high and you risk overpaying if you win it.
Revenue Equivalence
The “revenue equivalence” result says that, generally speaking, the design of auctions doesn’t matter: regardless of whether you have an open outcry auction, a sealed-bid second price (or Vickrey) auction, or a sealed-bid first price auction, in every case the winner will pay roughly the WTP of the 2nd highest bidder.
The revenue-equivalence result depends on an important assumption: that buyers have private values. In other words, buyers’ WTP are independent of each other. When this condition is violated—for example, if bidder’s WTP will rise as they realize that other bidders have high WTP—auction design can matter.
Are Auctions better for sellers or buyers?
Auctions are generally better for sellers than for buyers—since the latter are less likely to capture surplus. As a result, buyers may tend to prefer fixed price settings over auctions (and that can lead sellers to prefer using fixed prices as well). Fixed prices are also preferable when sellers already have plenty of information on buyers’ WTP, when buyers have very different WTP from each other, or when buyers are time-constrained.
In which of the following situations would the use of a focus group be preferable to a survey?
- An ice cream shop wants to find out how many people prefer chocolate over vanilla.
- A national movie theater chain wants to see if there is a correlation between income and frequency of going to the movies.
- A coffeehouse is interested in seeing why customers do not like its new French roast.
- A shoe manufacturer would like to investigate which features of tennis shoes that customers value most.
A coffeehouse is interested in seeing why customers do not like its new French roast.
This analysis would benefit from more in-depth qualitative information.
Your toy company is looking into launching a new line of dolls and action figures but is unsure if kids these days still actually play with them. As part of your market research, you send out a survey to 1000 households that have purchased toys in the last five years. You also decide to run two focus groups: one group of children ages 4-16 and one group of parents.
Which of the following questions asked in a survey or focus group would be unbiased and allow you to gain reliable information? Select all that apply.
- A survey question asking households, “How much money per month do you typically spend on your children’s happiness?”
- A focus group question asking children, “How often per week do you play with dolls or action figures?”
- A survey question asking households, “What fraction/percentage of income do you estimate that your family spends on entertainment in a given month?”
- A focus group question asking parents, “With which types of toys do your children typically play?”
- An anonymous survey question asking children, “what’s your favorite toy and why do you like to play with it?
A survey question asking households, “How much money per month do you typically spend on your children’s happiness?”
- This question is too broad and could be biased. For example, some parents will likely overstate the amount they spend on their children to seem like better parents.
A focus group question asking children, “How often per week do you play with dolls or action figures?”
- This question could be biased. Younger children are unlikely to be able to estimate the amount of time they spend playing with toys. It might also be the case that children lie about which toys they use and how often.
A survey question asking households, “What fraction/percentage of income do you estimate that your family spends on entertainment in a given month?”
- This question seems reasonable and could be useful to estimate potential market size.
A focus group question asking parents, “With which types of toys do your children typically play?”
- This question could be biased. Parents that work during the day might not know what kinds of toys that their kids like to play with. It might also be that parents would want their children to play with more educational toys than they actually do.
An anonymous survey question asking children, “what’s your favorite toy and why do you like to play with it?
- This question is likely to evoke a truthful response and allow your company see some common features of toys that kids would value.
- An English auction with a bidding increment of $100
- A sealed-bid first-price auction
- A fixed price of $12,000
- All of the above will generate roughly the same revenue.
All of the above will generate roughly the same revenue.
With so few bidders, the sealed-bid first-price auction could generate more or less revenue than the other two methods. As a rule of thumb, however, each of the above methods will generate approximately the same revenues for the seller.
What is a question you should ask yourself with data?
Are you tracing out different points of the demand curve OR the supply curve??
This is the problem of IDENTIFICATION.
This problem of “missing variables” is one of the core challenges in determining demand or supply. Simply looking at prices or quantities won’t tell you whether the price-quantity relationship captures the demand or supply curve. But if you isolate one feature or variable of your demand or supply, you can actually observe how the resulting prices and quantities vary. The store inventory in the example above shows this concept.
Example: Toys sold during Christmas time. (Data after the fact)
What could be the reason that the data on purchases of toys does not reveal a nice downward sloping demand curve as one might expect?
While this data may tell us how much consumers paid for the toy and for what quantity at each store, it does not tell us how much the consumers would have been willing to pay or what quantity they would have been willing to purchase.
Our picture (the first one below) is therefore incomplete; we know the consumers wanted to buy at least as many toys as they bought, and we know they were willing to pay at least the price that they paid. But their demand and their willingness to pay may actually have been much higher, and we have no way of knowing.
Other things we couldn’t consider:
Were the toys completely sold out or not? People MIGHT have purchased more. Some people may not have gotten a chance!
In the 1st example below, we know that some stores did sell out, but we don’t know if they had the PERFECT amount in stock- or if people would’ve bought more.
NEW GRAPH- SEPARATING TOYS STORE THAT SOLD OUT OF THE PRODUCT!
Conjoint Analysis
a way to determine what it is about a product that customers think is worth paying for, worth paying more for, or worth having at the expense of some other feature if they can’t have both. For the manufacturer, it is a way to figure out which product design elements they need to trade off in order to create the most desirable product that can be sold at the most profitable price.
Three steps to Conjoint Analysis:
- Collect Data from Customers through Pair-wise rankings: First, rather than ask a customer her preference across 27 (or more) different products, the conjoint approach requests a comparison only across two or three offerings at any one time.
- Infer values from rankings: Second, rather than asking a customer to fill out her dollar value for each feature-combination, in conjoint analysis we don’t even need to ask her that. Instead, we infer the dollar value she might assign to any product based on her rankings. That sounds easy—but it also sounds too good to be true. How does it work? Let’s return to the TV example to see the details.
- Estimate how many customers would buy the product with particular features.
Conjoint analysis can also be used to _______
Conjoint analysis can also be used to segment customers.
For example, the analysis might reveal that there was one group of customers who really cared about screen size, a second group that valued both screen size and picture quality, and a third group that primarily cared about price. Moreover, the data on customer preferences would tell us who was in each group, and each group’s size.
The customer segmentation information is quite useful for a TV manufacturer in figuring out which TV models to produce—and how many of each model. For example, say the data looked like this:
192
There are 4*4*3*2*2=192 possible combinations of features.
- The quality offering.
- The size offering.
- Revenues will be the same no matter which TV the store introduces.
-
The quality offering.
- If the store introduces the quality offering, segments A and B will both choose it over the competing product, leading to 50% of potential customers paying $2000 each.
- The size offering.
- If the store introduces the size offering, segments B and C will both choose it over the competing product, leading to 70% of potential customers paying $1000 each.
- Revenues will be the same no matter which TV the store introduces.
- The customers’ different preferences for the TVs and the different prices of the TVs lead to different revenues depending on which TV the store introduces.
Complement
Complement: 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).
Cross Price Elasticity of Demand
A measure of the responsiveness of demand for one product to a change in price of another product; mathematically calculated as the percentage change in quantity demanded for product X, divided by the percentage change in price for product Y. CPEs can be useful in identifying substitutes or complements to a product.
This price increase was enough to make 1,000 satellite users switch over to cable.
This is not a characteristic of one product, but of A PAIR products.
Knowing what you know now about cross-price elasticity of demand, you should be able to figure out from this data which car is the closest substitute for the Mazda 323. Which is it?
Chevy Cavalier
The Mazda 323 and the Chevy Cavalier have the highest cross-price elasticity, which means they are the closest substitutes.
Looking at the same data, let’s ask which car is the least likely to be a substitute for any of the other cars. Which car has a demand curve that wouldn’t change much no matter how much the price of any other car in this table went up or down?
BMW 735i
The cross-price elasticities for the BMW 735i are in general closest to 0 for all of the other automobile brands. This means that the BMW 735i is considered least likely to be a substitute by the consumers in the study.
Network Effects
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.
StubHub is an example of a NETWORKED BUSINESS.
NETWORK EFFECTS are an example of INCREASING RETURNS or VIRTUOUS CIRCLES.
- Add a food pouch to its gym offering
- Decrease the size of its hiking offering from large to medium
- Increase the price of its gym offering
- Add additional pockets to its gym offering.
- Increase the size of its gym offering from small to medium.
Add a food pouch to its gym offering
- Adding a food pouch would further satisfy Segment C, allowing the store to drive customers away from its competitor and capture more revenue. However, the addition of the pouch will also steal customers from segment B away from the store’s own higher-priced hiking offering, yielding lower revenues overall.
Decrease the size of its hiking offering from large to medium
- This modification would change the level of satisfaction of some segments, but not increase revenue for the store.
Increase the price of its gym offering
- While this modification would increase the revenue the store receives on each unit sold, it would also presumably decrease the level of satisfaction each customer received from the product. This would cause Segment C to defect to the store’s competitor, likely decreasing revenues overall.
Add additional pockets to its gym offering.
- Adding more pockets would further satisfy Segment C, allowing the store to drive customers away from its competitor and capture more revenue.
Increase the size of its gym offering from small to medium.
- While this modification would further satisfy Segments B and D, it would decrease the satisfaction of Segments A and C, causing revenue to fall as customers in Segment C defected to the store’s competitor.
A sporting goods store is trying to decide what type of backpack to introduce into its product line. After performing a conjoint analysis, the store finds that customers generally fall into one of four well-defined customer segments, with average part-worths as shown in the tables below. 20% of customers are in Segment A, 20% are in Segment B, 50% are in Segment C and 10% are in Segment D. These customers, 100 in total, will be deciding between the store’s two brands of backpack (either the “gym offering” or the “hiking offering”) and a competing store’s “school offering” bag.
Which backpack should the store introduce in order to maximize revenues?
The gym offering
- If the store introduces the gym offering, it will capture Segment A, but customers in Segment C will be indifferent between its offering and the competitor’s school offering. Assuming the store captures half of Segment C (25% of all consumers), it would capture 45% of all consumers (45 out of 100) paying roughly $30 each, for revenues of about $1,350.00. Even if all of Segment C happened to choose the gym offering, it would still earn slightly more revenue by offering the hiking backpack.
The hiking offering
- If the store introduces the hiking offering, it will capture Segments B and D, 30% of all consumers (30 out of 100) paying roughly $70 each, for revenues of about $2,100.00. This would yield the most revenue for the store.
Introducing either offering will yield the same revenues
- If the competitor’s product was not on the market, the store would earn approximately the same amount of revenue by offering either of its backpacks. However, because the average consumer in Segment C receives the same utility from purchasing the competitor’s school offering as they do the gym offering, it’s safe to assume that the competitor will attract about half of Segment C. Thus, the store would earn greater revenues by offering its hiking backpack.
Neither product will earn revenue because the competitor’s offering is preferred by all.
- The competitor’s product is fully preferred by none of the four segments.
