South-Western College Publishing - Economics  
Hard Drive to Increase Computer Sales; Prices Lowest in Memory
Subject Calculation, Interpretation, and Estimation
Topic Elasticity
Key Words Sales, Prices, Production, Demand, Revenue
News Story

Nearly half of U.S. households now own a PC, yet December 1998 turned out to be a strong sales period for computer retailers. Unit sales rose 41 percent. However, average prices fell by 20 percent to barely more than $1,000 as computer manufacturers increased their production of sub-$1,000 home-PC models to satisfy the demand of less affluent households.

The fortunes of different retailers varied. Best Buy and Circuit City saw double-digit gains in revenue, but CompUSA and Tandy, which did not focus on low-priced PCs, saw slower growth, even falling sales. In general, lower-priced computers have slender profit margins. This may cause consolidation among retailers and a reduction in the inventory carried. Meantime, Dell and Gateway continued to maintain high average selling prices of around $2,000 by serving repeat buyers. Dell also noted a growth in sales of digital cameras and scanners to transmit images over the Internet.

(Updated March 1, 1999)

Questions
1. a) Given that computer sales increased by 41 percent and that prices fell by 20 percent, what was the price elasticity of demand?
  b) Was demand elastic or inelastic?
  c) What happened to revenues as a result? How do you know?
2. a) What determines the price elasticity of demand for goods and services?
  b) How would you explain the price elasticity of demand for computers that you calculated in Question 1?
  c) How would you explain the more inelastic demand for higher-priced PCs?
3. a) Price reductions on low-end PCs at Best Buy and Circuit City caused sales of higher-priced PCs to fall in some CompUSA stores. In what range does the cross-price elasticity of demand for these two types of computers lie? What does that tell you about the relationship between the two products?
  b) As the price of computers fell, the demand for scanners increased. In what range does the cross-price elasticity of demand for computers and scanners lie? What does this imply about the relationship between the two goods?
Source Gary McWilliams, "Lower-priced PCs Drove Strong Sales For Holiday Month", The Wall Street Journal, January 8, 1999.

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