Question 1
When the time comes to blame someone for the economic doldrums, the quantitative analysts who build the mathematical financial risks models and the traders who rely on the economic models deserves to share the blame (Ellis & Christofides, 2015). It has been believed by most of the analyst that the economic models are based on assumptions, which makes them false in most of the cases leading to unclear and inaccurate predictions of the future (Merola, 2015). Hence, a question arise that whether it is possible to reflect the reality by using a perfect financial data. The answer relies in the perfection and logical representation of the economic models.
It is important for the government of a nation to identify the dodges of the conservative economic models before using them to predict the future outcomes of the economy (Ellis & Christofides, 2015). The conventional economic models are based on historical data and theoretical concepts that are used to predict the futuristic economic numbers to minimise the financial risks and develop a mitigation plan to maintain a proper balance in the economy (Matsumura, 2013). It is important to note that the government of a nation should not only rely on the theoretical economic models while predicting the distribution of resources. The primary reason for the failure of the economic models to predict the reality is the failure to consider the uncertainties while judging the futuristic numbers.
The economic models are developed by using hypothetical frameworks that are based on historical data and statistics. Therefore, the economic models are capable of testing the futuristic results by considering the past economic behaviours. On the other hand, there is no proper evaluation method judge the accuracy of the predictions (Matsumura, 2013). Furthermore, the economic models are subjective in nature in nature and vary from one person to another. There are two types of economic models namely theoretical models and empirical models that are used in predicting the future numbers. Meanwhile, both the theoretical and empirical economic models have certain limitations that lead to inaccurate predictions. Hence, different predictions are made by using different economic models irrespective of the data being constant. Furthermore, the lack of proper explanation can be identified as another primary reason for the failure of the economic models (Tabb, 2014). One of the biggest examples of the failure of the economic model was evident during the Global Financial downturn in the year 2007 and 2008. The failures of the predictions made by the economic models led the major financial institutions of the world to seek severe losses (Ellis & Christofides, 2015).
Though economic models are false in predicting the future outcomes in most of the cases, the government cannot totally ignore the use of these models. Hence, it is important for the government to consider the errors involved with these models while using them to predict the future statistics. The government must select modern economists to recalibrate the traditional models before using them in financial projections. Conclusively, the government needs to identify the issues of the quantitative models and use more logical economic models to predict the future outcomes.
Question 2
Price elasticity of demand (PED) calculates the significant change in the demanded quantity due to a change in price of the commodity (Ellingsen, 2016). Precisely, the term is also known as price elasticity. The formula of calculating price elasticity of demand is given below:
By identifying the price elasticity of a commodity, the particular demand of the product can be evaluated by the manufacturers and producers. Notably, the price elasticity of a product or commodity mainly varies according to the necessity of the product. Moreover, the price elasticity of a commodity can be highly influenced by the spending nature of a particular market buyers or the substitution available for the product. In the discussion, the price elasticity of three different products such as petrol, gas, and cigarette has been analysed as follows:
Petrol: Petrol can be identified as one of the most essential commodity for the public that have automobile. Therefore, lack of substitutes has made the commodity so much essential. As a result of no alternative, change in price has merely made any distinct difference for petrol. Clearly, the surge in price has impacted in the demand, to say the least (Bernstein & Griffin, 2006). As shown in the diagram below, if the price of the commodity will increase from $3 to $6 per gallon, the demand will remain intact. Hence, the price elasticity of demand in case of petrol is perfectly inelastic.
As analysed before, essential commodity such as petrol can show a perfectly inelastic demand as the demand is irrespective of change in price.
Gas: In household activities, gas can be identified as one of the most significant commodity used for cooking purpose. Therefore, the price elasticity of the commodity has been analysed in this section. Assume that the price of gas is increased by fifty percent; the quantity demanded will be reduced by 25 percent. As a result, the price elasticity of demand will be calculated is -0.5. Precisely, the price elasticity of demand in case of gas is inelastic in nature (Coglianese, Davis, Kilian, & Stock, 2016).
As described in the above figure, if the price of gas increases from P1 to P2, the quantity demanded will be reduced from Q1 to Q2. Herein, the change in price has made less impact in demand.
Cigarette: Cigarette is another commodity that has no close substitutes in the market. Therefore, such addictive commodities are bought frequently and the demand of the products has hardly changed due to rise in price. Similar to gas, the quantity demanded will change a little due to increase in price. Therefore, the price elasticity of demand for cigarette is inelastic in nature (Ellingsen, 2016). For instance, if the price of a cigarette packet will be increased from $10 to $15, the demand of the cigarette packets may be down from 10 to 8 packets. Clearly, the PED in this case will be determined less than 1. Hence, comprehensively, the price elasticity of demand for cigarette is highly inelastic.
References
Bernstein, M. & Griffin, J. (2006). Regional differences in the price-elasticity of demand for energy (1st ed.). Golden, Colo.: National Renewable Energy Laboratory.
Coglianese, J., Davis, L., Kilian, L., & Stock, J. (2016). Anticipation, Tax Avoidance, and the Price Elasticity of Gasoline Demand. Journal Of Applied Econometrics, 32(1), 1-15.
Ellingsen, T. (2016). Price signals quality: The case of perfectly inelastic demand. International Journal Of Industrial Organization, 16(1), 43-61.
Ellis, M. & Christofides, P. (2015). Economic Model Predictive Control: Elucidation of the Role of Constraints. IFAC-Papersonline, 48(23), 47-56.
Matsumura, T. (2013). Endogenous Role in Mixed Markets: A Two-Production-Period Model. Southern Economic Journal, 70(2), 403.
Merola, R. (2015). The role of financial frictions during the crisis: An estimated DSGE model. Economic Modelling, 48, 70-82.
Rassenfosse, G. & Potterie, B. (2011). On the Price Elasticity of Demand for Patents. Oxford Bulletin Of Economics And Statistics, 74(1), 58-77.
Tabb, W. (2014). Economic governance in the age of globalization (1st ed.). New York: Columbia University Press.
