Both Nestle and Mars are chocolate manufacturers. With the rising price of raw material like wheat and cocoa, cost of production increases for both Nestle and Mars. If the firms do not adjust their supply curve, they will lose part of their profits as total revenue remains the same, yet cost of production increases.
Take Nestle as an example, if Nestle decides to maintain to be as profitable, it can only produce less at each price level, meaning that the supply curve is shifted to the left. Demand curve still remains the same. Equilibrium price increases. Consumers have to pay more to buy the same amount of products. Additional costs are passed onto the consumers.
Possible shortcoming of this decision is that Nestle may lose its costumers if we consider Nestle and Mars as close substitutes. Price elasticity of demand of Nestle is high. If Nestle increases its price but Mars does not, the increase in price of Nestle will result to a decrease in quantity demanded of Nestle to a greater extent. Thus, total revenue decreases. The firm’s profit may not be as high as expected. However, as Nestle announced, the brand loyalty has differentiate Nestle from other chocolate manufacturers, making it less substitutable. Nestle is less price elastic. Even with an increase in price, its quantity demanded is not affected much. Total revenue increases and profit increases.
If firms are afraid of losing customers by increasing price and, at the same time, are not willing to hold customers at an expense of losing profits, all chocolate manufacturers may come to some agreements that they will all raise their price at the same rate and same time. Price is pushed up for all chocolate products so that consumers, having no choice, can only pay more. However, this sort of behavior is illegal and vicious. Government will intervene to prevent it.
3 comments:
can u elaborate more on the part "adjust their supply curve". shouldn't the supply curve being shifted left due the rise in price of raw material alr? and the article said the producers have the option of rising the price, so shouldn't it be a upward movement along the curve?
I think the PED concept is well analyzed in this reflection. But I do not understand why "all chocolate manufacturers raise their price at the same rate and same time" is illegal. Isn't it part of the inflation? As price increase, quantity demanded will decrease as only those who really love chocolate will continue buying them. Thus they are not "forced" to pay more, they can choose not to buy. Or they have to accept the fact that everything is become more expensive.
Chunmeng
With regards to Chunmeng's comment, I think why it is considered illegal for all chocolate manufacturers to raise their price at the same rate and time is because this is the way the government is trying to protect the consumers. If all the chocolate manufacturers "collaborate", they will act like a monopoly and have considerable control over price. Demand curve for chocolate will be relatively price inelastic due to the lack of substitutes. Producers will be able to raise the prices of chocolates as and when they like to, as they know that we consumers have no other cheaper alternatives to switch to (assuming that we only eat "branded" chocolates from Nestle, Cadbury etc). Inflation refers to a general rise in the level of prices throughtout the economy. In this case, I believe it is because only one commodity (chocolates) was mentioned to have risen in price.
-Joycelyn!
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