South-Western College Publishing - Economics  
Foreign Luxury Cars Perform Better
Subject Comparative statics
Topic Supply and Demand
Equilibrium
Key Words Market, luxury, product, economy, stock market, prices, regulatory pressures
News Story

Historically, Cadillac and Lincoln dominated the market for luxury cars, but European and Japanese producers have whittled away their lead. In 1999, American producers were outsold by Mercedes-Benz and Lexus (a Toyota division), while BMW were close behind.

The European carmakers have the finest products; Americans feel that the cars look and drive the best. BMW is associated with driving performance, Volvo with safety, Jaguar with elegance, and Mercedes with reliability. The vibrant economy and the rising stock market have enabled consumers to afford the high prices. Also, European manufacturers have been successful in offering more luxury cars in the lower parts of their price ranges. Helping the luxury car market, sport utility vehicles are falling out of favor due to higher gasoline prices and regulatory pressures to reduce their high emissions and deadliness to other motorists in crashes.

American producers are responding by introducing cheaper versions of European cars, such as the Lincoln LS which is like a BMW 5-series but is $10,000 cheaper. They are also buying interests in European car manufacturers, and hiring their executives.

(Updated March 1, 2000)

Questions
1. Draw a supply and demand diagram of the market for sport utility vehicles (SUVs). Show the initial equilibrium price and quantity.
  a) Gas prices have risen over the past year. Which determinant of demand or supply has been affected? What kind of good is gasoline in the market for SUVs? Illustrate the effect of higher gas prices on the equilibrium price and quantity of SUVs.
  b) Regulations may cause manufacturers' costs to rise as they make cars less polluting. Which determinant of demand or supply would be affected? Illustrate what would happen to the equilibrium price and quantity of SUVs as a result.
2. Now draw a diagram of the market for luxury European cars. Mark the initial price and quantity of cars.
  a) European cars are attractive to consumers. Which determinant of demand or supply is influenced by this? Illustrate the effect on the equilibrium price and quantity of cars.
  b) Which determinant of demand or supply has been affected by the vibrant economy and the buoyant stock market? On your diagram, show the implications for the price and quantity of luxury cars bought and sold.
  c) As the SUV market changes in the ways described in Question 1, which determinant of demand or supply in the luxury car market is affected? What kind of good is an SUV in the market for luxury cars? Illustrate the effect of the changes in the SUV market on the equilibrium in the luxury car market.
Source Keith Bradsher, "Luxury Wheel Turns to Europe," The New York Times, January 13, 2000.

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