Business Economics For Worldwide Instantly

Part 1 Opinion Piece

Describe about the Business Economics for Worldwide Instantly.

Since June, 2015, the oil price fell below $70 from $115. It is the lowest level since 2009. The high value of U.S Dollar against the Euro was one of the main causes which led to the sharp drop in the price of crude oil all over the world (Kilian and Murphy, 2014). Another leading driver of decline in price drop of oil was The Organization of the Petroleum Exporting Countries (OPEC), which refused to stabilize the oil markets. Oversupply of crude oil and also Iran Nuclear Deal made the oil price go down.

In 2015, the demand for crude oil rose instantly worldwide, due to decrease in its price (Baumeister and Kilian, 2016). Since the last five years, shale oil productivity has risen to 50%. Along with decrease in oil product prices, increase in the level of income was also a main reason for rising U.S oil demand.

This economic theory is supported by the Law of demand, which states that if all the factors affecting demand remain constant and the price of a commodity rises, the demand for it will decrease (Baumeister and Peersman, 2013). In contrast, if the prices of the commodity decline, it will lead to rise in demand for that commodity. Thus, there is an inverse relationship between demand and price of a commodity. In context of U.S oil, the demand for crude oil rose due to decrease in its price. It is further explained with the help of following diagram:

As per economic theory, when the change in price of a commodity brings a little impact on its quantity demanded, it is called inelastic demand. In the last six months of 2015, the price of crude oil fell by 30%, which led to rise in its demand by 2% (Singleton, 2013). There exists a smaller change in demand for crude oil as compared to change in its price. Thus, oil demand in US is having inelasticity of demand. It is calculated as below:

Change in quantity demanded of oil ÷ percentage change in oil price

= 2% ÷ 30%

= 0.067, which is < 1

So, price elasticity of demand for crude oil is less than unitary. It suggests that although the price of crude oil is declining by 30% but is demand is not responding substantially equal to or closer to the fall in price.

No, I do not agree with the opinion expressed in source 1, on the price elasticity of demand. As per economic theory, the demand of a commodity is also affected by various determinants other than price of that commodity. These factors include change in the level of consumer income, change in the preference of consumers, and availability of substitute (Esfahani et al., 2014). Decrease in the price of oil does not necessarily means that there will be increase in its demand. The demand for oil depends on various factors affecting it other than its price.

Part 2 Supermarkets Price War

In the short run, the demand for oil in US may have increased due to fall in its price but in the long run oil price may not have any major impact on its demand if other factors prevail (Dube and Vargas, 2013). It is observed that in the recent years the supply of oil in US has increased more than required which also led to decline in its price.

Since, due to oversupply of crude oil in last two years, its price fell down day-by-day and its demand rose substantially. It has caused an imbalance in the supply and demand for oil (Knittel and Pindyck, 2016). So, on the basis of above analysis, I would like to advice oil producer to increase the price of crude oil, in order to balance the supply of oil with its demand.

Decrease in the oil price has reached to $37, which was the lowest ever since 2011. Increase in the price of crude oil would enable its producers to control the supply which will result in decrease in oil supply for consumers (Fattouh et al., 2016). As a consequence, there will be a sharp increase in the demand for crude oil, which will ultimately lead to the increase in revenue for crude oil producers.

It is depicted with the help of following diagram:

Change in quantity demanded in response to change in price level

Price elasticity of supply indicates the variation in quantity supplied of a commodity in response to its price. On the basis of source 2, it is found that there has been an unexpected increase in US shale oil supply, since the last few years (Dreger ey al., 2016). In the year 2008, the price of crude oil suddenly raised up to $145, which led to extraction of shale oil in US. As the supply of shale oil by US increased, the crude oil price began to decline gradually. In December, 2008, the oil price fell below $30.28.

It indicates that changes in the market have a significant impact on the price of US crude oil. Thus, price elasticity of shale oil supply is elastic, that is, more than 1.

According to the economic theory, an oligopolistic market where a very few firms operate for gaining larger market share. These firms are interdependent on each other because the action of one firm may affect the position of another one (Trevena et al., 2016). Also, the firms also have the power to set prices rather than taking prices.

Kinked demand curve

On the basis of above economic theory, it can be said that a supermarket industry is an oligopolistic market. Coles and Woolworths are the leading examples of Supermarket industry of Australia. These two firms in supermarket industry sell products which are mainly differentiated by promotional schemes and advertising expenditure (Lee et al., 2016). Coles and Woolworth occupy a major portion of market share and they also have an effective control over price and supply of their products.

From the figure, it is evident that the market share of Coles is 37% and that of Woolworths is 43%. The larger market share makes them dominant and provides power to rule Supermarket industry of Australia. There also exist barriers which prevent new firms to enter into the market. New firms became unable to reach the production scale and profit margin of Coles and Woolworths, and consequently shut down within a few years (Hattersley, 2013). The two firms compete with each other using price and discount war in order to gain competitive advantage and customer loyalty. This price competition affects the profitability of their business and makes them to re-design their strategies.

No, it is not in the interests of Coles and Woolworths to have a price discount war. This is because, both the companies operate in an oligopolistic market structure and also they both are interdependent on each other. If they compete with each other using price discount war then it may adversely affect the profitability of both of them. Also, according to the kinked demand curve, increase in price of a commodity above a certain point leads to decrease in revenues of the firm in the long run (Richards et al., 2012). This is because; other competitors in the industry would not change their product prices and it would bound Coles and Woolworths to lose some market share for their rivalries.

A better strategy for Coles and Woolworths is to make a settlement on the prices and to identify Nash equilibrium so that they can decide a fix price of their products. It will be beneficial for both of the firms to compete on product quality and diversification rather than on price (McCarthy, 2014). Moreover, they can form a cartel so as to resist the entry of new firms in the market.

One of the major theoretical tools which can be used to evaluate market competitive behaviour is Game theory. Game theory works better in an oligopolistic market where two or more firms operate in the industry.

Economic theory describes a market structure as a monopoly when there is only a single seller or supplier in the market and there is no availability of closer substitute of the product (Knutson et al., 2014). In such a market, the seller is not the price taker but the price maker and other firms are restricted to enter into the industry due to various legal and technical barriers.

Coles and Woolworths have established a monopoly in the Australian vegetable market due to which farmers are facing difficulty in staying in the business. As per source 1, an increased production cost and lack of compensation in return, most of the farmers are not willing to grow vegetables any more. Coles and Woolworths use their market power which reduces the profit margin of vegetable growers. Various items have been discounted by the companies up to 50%.  It makes the growers financially unable to grow new plants in their specified budget.

According to source 2, the market share of vegetables in the industry is only 13%, which is very less in comparison to other commodities. It is creating pressure on the vegetable sector of Australia and vegetable growers are finding it hard to survive in the business.

The falling prices of Coles and Woolworths due to the price discount war would negatively affect the individual vegetable producer. It is because, the producer may continue to grow vegetables up to a certain level but after that if his profit margin will not increase and cost will starts rising up, due to which the production level will decline in the long run and he will stop growing vegetables in future (Sutton-Brady et al., 2015). Although the fixed cost will remain constant but the variable cost may rise, if the farmers continue to produce vegetables. Because, the farmers will not able to match with Coles and Woolworths output level, it can create diseconomies of scale for small farmers and they will be forced to exit the market.

Yes, it is true that if individual farmers in Australian vegetable industry made significant improvements in their technologies, they could overcome the increasing price issues and stay in business in long-run. This is because if the farmers adopt latest technologies, it would lead to efficiency in production along with decrease in cost of production in the long-run (Sutton-Brady et al., 2015). It will then help them to gain economies of scale and constant returns to scale. The revenues from the sale of production will increase and thereby all over profits of the farmers will be maximized if the capital investment is made in the form of introduction of technology.

Conclusion

From the first part 1 of this assignment, it is concluded that a sharp drop in crude oil price in United States of America has in the second half of 2015 has put a significant effect on the entire global economy. Although, decrease in oil price has raised the purchasing power of consumers but at the same time, it has lowered the cost of living of people.  Above discussions also reflect that oil producers have suffered a huge loss due to lower prices. This unexpected price fall has slowed down the economic activities in affected countries and thereby, the entire economic growth.

On the basis of part 2 of this assignment, it is concluded that, Woolworths and Coles are the top leading companies in the supermarket of Australia. Also, they are closer competitors of each other and thus, together they form an oligopolistic market structure in Australia. It is observed that price discount war among both the companies has resulted in financial burden on the farmers of Australian vegetables market, due to which they were forced to exit the market. It is also seen that many growers started producing milk for less money and they work for more hours than required.

References

Baumeister, C. and Kilian, L., (2016) Forty years of oil price fluctuations: Why the price of oil may still surprise us. The Journal of Economic Perspectives,30(1), pp.139-160.

Baumeister, C. and Peersman, G., (2013) Time-varying effects of oil supply shocks on the US economy. American Economic Journal: Macroeconomics,5(4), pp.1-28.

Dreger, C., Kholodilin, K.A., Ulbricht, D. and Fidrmuc, J., (2016) Between the hammer and the anvil: The impact of economic sanctions and oil prices on Russia’s ruble. Journal of Comparative Economics, 44(2), pp.295-308.

Dube, O. and Vargas, J.F., (2013) Commodity price shocks and civil conflict: Evidence from Colombia. The Review of Economic Studies, 80(4), pp.1384-1421.

Esfahani, H.S., Mohaddes, K. and Pesaran, M.H., (2014) An empirical growth model for major oil exporters. Journal of Applied Econometrics, 29(1), pp.1-21.

Fattouh, B., Poudineh, R. and Sen, A., (2016) The dynamics of the revenue maximization–market share trade-off: Saudi Arabia’s oil policy in the 2014–15 price fall. Oxford Review of Economic Policy, 32(2), pp.223-240.

Hattersley, L., (2013) Agri-food system transformations and diet-related chronic disease in Australia: a nutrition-oriented value chain approach. Agriculture and human values, 30(2), pp.299-309.

Kilian, L. and Murphy, D.P., (2014) The role of inventories and speculative trading in the global market for crude oil. Journal of Applied Econometrics,29(3), pp.454-478.

Knittel, C.R. and Pindyck, R.S., (2016) The simple economics of commodity price speculation. American Economic Journal: Macroeconomics, 8(2), pp.85-110.

Knutson, R.D., Palma, M.A., Paggi, M., Seale, J., Ribera, L.A. and Bessler, D., (2014) Role of trade in satisfying US fresh fruit and vegetable demand.Journal of International Food & Agribusiness Marketing, 26(4), pp.326-343.

Lee, A.J., Kane, S., Ramsey, R., Good, E. and Dick, M., (2016) Testing the price and affordability of healthy and current (unhealthy) diets and the potential impacts of policy change in Australia. BMC public health, 16(1), p.1.

McCarthy, B.L., (2014) Sustainable food systems in Northern Queensland.Journal of Economic and Social Policy, 16(1), p.0_1.

References

Richards, C., Lawrence, G., Loong, M. and Burch, D., (2012) A toothless chihuahua? The Australian Competition and Consumer Commission, neoliberalism and supermarket power in Australia. Rural Society, 21(3), pp.250-263.

Singleton, K.J., (2013) Investor flows and the 2008 boom/bust in oil prices.Management Science, 60(2), pp.300-318.

Sutton-Brady, C., Kamvounias, P. and Taylor, T., (2015) A model of supplier–retailer power asymmetry in the Australian retail industry. Industrial Marketing Management, 51, pp.122-130.

Trevena, H., Thow, A.M., Dunford, E., Wu, J.H. and Neal, B., (2016) Protocol for a cluster-randomised trial to determine the effects of advocacy actions on the salt content of processed foods. BMC public health, 16(1), p.1.