Table of Content

PAGE
1. Learning Issues
1.1 What is Demand 2
1.2 Determinants of demand 3
1.3 Demand function construction 4
1.4 Multiple linear regression 4
1.5 Estimate demand function using regression 4
1.6 Demand Elasticity definition 5
1.7 Price elasticity, cross price elasticity and income elasticity 5

2. Introduction 8

3. Defining Issues / Problems

3.1 Possible demand factors in paint sales 9
3.2 Demand Function for Paint Sales 11
3.3 Demand Function using a statistical software ( Excel ) 11
3.4 Demand function elasticity’s & interpretation of the slope coefficient 12

4. Analysis
4.1 T test for each independent variable 13
4.2 Coefficient of determination , r2 14
4.3 F-Test for demand function as a whole 15
4.4 Price , Income and Advertisement elasticity and interpretation 16

5. Conclusion 18

6. References 20

7. Appendix

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 1. Learning Issues

1.1 What is demand

The concept of demand is based on the theory of consumer choice. Each customer
faces a constrained optimization problem, where the objective is to choose among the
combinations of goods and services that maximize satisfaction or utility, subject to a
constraint on the amount of funds available.

In this constrained utility-maximizing frame-work, economists have identified basic

factors , income and substitution effects that cause increase in quantity demanded as
the result of a price reduction.

The demand schedule is merely a list of prices and corresponding quantities of a

commodity, holding constant the influence of all other factors that would be
demanded by some individual or group at uniform price. Market demand serves as a
basis for making many pricing and output decisions. Durable goods may be stored and
the replacement may be delayed from period to period.

We are considering the demand for consumer goods that are purchased largely to meet
current needs and then generally provide service on short-term basis (non-durable
goods). Producer’s good are produced as raw materials, capital equipment and parts in
manufacturing process.Demand for producer goods are thought as derived demand
because it is derived from customer desire or request.

Demand has tended to become more variable and uncertain. Managing such uncertain
demand require significant contribution and systematic collection of data when the
demand shows a lumpy pattern . Lumpy demand can be defined as variable and
therefore characterized by relevant fluctuations , sporadic because the demand series is
characterized by many periods of very low or no demand , and nervous , reflecting the
low auto-correlation of the demand . Lumpy demand might caused by the
numerousness and heterogeneity of customer in market , order frequency , variety and
correlation of customer request.

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 1.2 What are the possible factors that determine the demand for a product

The possible factors that determine the demand for a product , called determinants
or independent variable that explained the dependent variable are listed partially as per
below :

P=Price of the goods or services

Ps=Price of substitute goods or services
Pc=Price of complementary goods or services
Y=Income of Consumers
A=Advertising and promotion expenditures
Ac=Competitors’ advertising and promotion expenditures
N=Size of the potential target market ( demographic factor )
Cp=Consumer tastes and preferences for the good and service
PE=Expected future price appreciation or depreciation
TA=Adjustment time period
T/S=Taxes or subsidies

Changes in Price (P) of the good or service will result only in movement along the
demand curve (change in quantity demanded), whereas changes in any of the other
demand determinants or factors other than price in the demand function will shift the
curve (change in demand).

When price of goods decline, the real income or purchasing power of the consumer
increase, known as the income effect.When price of goods declines, the rational consumer
can increase his or her satisfaction or utility by purchasing more of the goods or services
whose price has declined and less of the substitutes. This situation is known as the
substitution effect of the price change. Although it increases the demand , it will not cause
a steep increasing demand curve due to timeliness and usefulness

A decline in price will always have a positive impact on the quantity demanded for
income-superior goods and services. For income-inferior goods and services, the income
and substitution effects have opposite impacts on the quantity demanded but the net effect,
is that more goods and services will be demanded as price declines.

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 1.3 How to construct a demand function from the identified possible
determinants

Before we can construct a demand function, we must first specify the form of the
equation or regression relation that indicates the relationship between the independent
variables and the dependent variable.

There are 2 types of model that is :

i) Linear model where each independent variable does not depend on other
independent variables.
ii) Multiplicative model where each independent variable interdependent on other
independent variables.

In this Paint Industry example, a linear model would be specify as :

Q = α + ß1A + ß2P+ ß3M + ε

where ß1, ß2 and ß3 are the coefficients of A,P and M respectively. Each coefficient
provides an estimate of the change in quantity demanded associated with a one-unit
change in the given dependent variable, holding constant all other independent
variables. The β coefficients are equivalent to the partial derivatives of the demand
function :
β1 = δQ/ δA , β2 = δQ/ δP , β3 = δQ/ δM

1.4 What is multiple linear regression

Multiple regression is a statistical technique that allows to predict score on one

variable on the basis of their scores on several other variables. Multiple linear
regression is a method used to model the linear relationship between a dependent
variable and one or more independent variables. In this Paint Industry example, Sales
(Y) were derived as function of three independent variables: Price, Income and
Advertising factor. MLR is based on least squares. The model is fit as the sum of
squares of differences or error of observed and estimated values is minimized.

1.5 How to estimate the demand function using the regression

Based on the least squares method of finding regression parameters. Regression helps
to obtain the regression coefficients for each variable from the sample of observed

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 data. Mathematically values of parameters ("intercept") and ("slope") in the
simple linear regression model is derived.

Where = Dependent variable, Quantity

= Intercept or regression constant
= Beta coefficient on the mth independent variable
m = Total number of independent variable (predictors)
= Value of mth variable
= Error Term

1.6 What is the meaning of demand elasticity

Demand elasticity is the magnitude effects of changes or impact measurement of

changes in the determinants or variables on the quantity demanded. Elasticity may be
thought of as a ratio of the percentage change in one quantity (or variable) to the
percentage change in another , ceteris paribus (all other things remaining
unchanged).It denotes the responsiveness of the dependent variable, demand to the
changes in a particular determinants or factors.

Demand elasticity is often the key to marketing plan. Firms should always seek to
raise prices for any products in the inelastic range of their demand. Lowering price in
inelastic range would increase cost and decrease revenue. The profit-maximizing
output will always occur in the elastic region of demand, at a price above the unit
elastic price point. We analysis the demand elasticity with price elasticity of demand ,
income elasticity and cross-price elasticity.

1.7 How to obtain the price elasticity , cross-price and income elasticity of
demand from the estimated regression model ?

Price elasticity of demand ( ED ) is defined as the ratio of the percentage change in

quantity demanded to a percentage change in price :

ED= %∆Q , ceteris paribus where ∆Q=change in quantity demanded

% ∆P ∆P=change in price

The sign of the price elasticity coefficient will always be negative ( -ve ) due to the
normal inverse relationship between price and quantity demanded

The Arc Price Elasticity of demand is the price elasticity between two prices. It is
computed over a discrete range of demand schedule and a measure of the average
elasticity over that range. The effect of a change in price on the quantity demanded

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 ED= ∆Q . P2 + P1 where Q1 =quantity sold before a price change
∆P Q2 + Q1 Q2 =quantity sold after a price change
P1 =original price
P2 =price after a price change

Point Price Elasticity is the elasticity of demand at any point along the curve and may
be calculated with following expression :

ED= δQD . P where δQD = the partial derivative of quantity with respect to
price
δP QD δP ( the inverse of the slope of the demand curve )
QD = the quantity demanded at price P
P = the price at some specific point on the demand
curve
Interpretation of Price Elasticity of demand
ED = 0 Perfectly inelastic
0 < ED < 1 Inelastic
ED = 1 Unit Elastic
1 < ED < ∞ Elastic
ED ≤ ∞ Perfectly Elastic
Income elasticity of demand measures the responsiveness of a change in quantity
demanded of some commodity to a change in income. It can be expressed as :

EY= %∆QD , ceteris paribus where ∆QD=change in quantity demanded

% ∆Y ∆Y=change in income

The most common income used is disposable income, calculated on an aggregate ,

household or per capita basis.

The Arc Income Elasticity is used to calculate income elasticity between two income
levels.

EY= ∆Q . Y1 + Y2 where Q2 = quantity sold after an income change

∆P Q1 + Q2 Q1 = quantity sold before an income change
Y2 = new level of income
Y1 = original level of income

The point income elasticity provides a measure of this responsiveness at a specific

point on the demand function.The point income elasticity is defined as :

EY= δQD . Y where δQD = the partial derivative of quantity with

respect
δY QD δY to income
QD = quantity demanded of some commodity
Y = income

Interpretation of Income Elasticity of demand

0>ED Inferior Goods ( -ve ) Purchased in smaller quantity as income
increase
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 0< ED Normal or income-superior goods ( +ve )
0<ED<1 Low Income Elasticity ( Necessities Goods )
1< ED High Income Elasticity ( Luxury Goods )

The cross price elasticity of demand EX is a measure of the responsiveness of changes

in the quantity demanded ( QDA ) of Product A to price changes for Product B ( PB )

EX= %∆QDA , ceteris paribus where ∆QDA = change in quantity

demanded
% ∆PB of Product A
∆PB = change in price of Product
B

The arc cross price elasticity is computing cross elasticity between two price levels

EX= ∆QA . PB2 + PB1 where QA2 = quantity demanded of A after a

price
∆PB QA2 + QA1 change in B
QA1 = original quantity demanded of A
PB2 = new price for Product B
PB1 = original price for product B

The point cross price elasticity between product A and B is computed as

EX= δQA PB where δQA = the partial derivative of QA with respect to

PB
δPB QA δPB
QA = quantity demanded of Product A at price
point PB
PB = price of product B
Interpretation
Cross Price Elasticity ( positive ) The two products is a substitute for each other
Cross Price Elasticity ( negative ) The two products is a complementary for each other

From a linear regression model are specified as follow :

Q = α + β1P + β2Y + β3X + ε

where β1, β2, β3 coefficient provides an estimate of the change in quantity demanded
associated with a one-unit change in the given independent variable , holding constant
all other independent variable.The β coefficient are equivalent to partial derivatives of
demand function :

β1= δQ , β2= δQ , β3 = δQ
δP δY δX
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 ED= δQD . P , EY= δQD . Y , EX= δQA . PB
δP QD δY QD δPB QA

ED= β1 . P , EY=β2 . Y , EX = β3 . PB
Q Q Q

The coefficient β denotes the elasticity for each of the independent parameter or
variable in liner regression model

Multiplicative Exponential Model

Q = α Pβ1 Yβ2 Xβ2

Transforming to linear relationship in logarithms :

log Q = log α + β1log P + β2 log Y + β3 log X

Differentiating with respect to price :

δQ = β1 α Pβ1-1 Yβ2 Xβ3
δP

ED= β1 α Pβ1-1 Yβ2 Xβ3 . ( P / Q )

Substituting for Q and canceling and then combining terms where possible yields
ED= β1
The elasticity are a constant over the range of data used in estimating the parameters
and equal to the estimated values of the respective parameters in the multiplicative
exponential form

2 Introduction

Price forecasting is an integral part of economic decision making. Forecasts may be

used in numerous ways; specifically, individuals may use forecasts to try to earn
income from speculative activities, to determine optimal government policies, or to
make business decisions. Like any other goods, paint price depends on supply and
demand.

Paint industry is attempting to develop a demand model or it’s line of exterior house
paints. The company feels that the most important variables affecting paint sales
(measure in gallons) are:
1. Selling price, P (measured in dollars per gallon.)
2. Income per household, INC (measured in RM)
3. Advertising expenditure, ADV (measured in RM), including expenditures on
advertising at radio, tv and newspapers.

The accountant decides to collect data on the variables in a sample of 10 company

sales regions that are equal in population. Data on paint sales ,selling price, Income
per household and the advertising expenditure were obtain from the company’s
research department. The data shown in Table 1.
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 Table 1: Data on the exterior house paints.
Sales Price Income Advertisement
Region ( 1,000 gallons ) ( RM / gallon ) ( RM1,000 ) ( RM 1,000 )
1 160.0 15.0 19.0 150.0
2 220.0 13.5 17.5 160.0
3 140.0 16.5 14.0 50.0
4 190.0 14.5 21.0 190.0
5 130.0 17.0 15.5 90.0
6 160.0 16.0 14.5 60.0
7 200.0 13.0 21.5 140.0
8 150.0 18.0 18.0 110.0
9 210.0 12.0 18.5 200.0
10 190.0 15.5 20.0 100.0

In this study, we first present the forecasting model for predicting future house
paints using Multiple Linear Regression method. Then we will conduct the F test .

3 Defining Issue & Problem

3.1 To list down a set of possible factors that could have caused the demand for a
good or service

Even though the focus in economics is on the relationship between the price of a
product and how much consumers are willing and able to buy, it is important to
examine all of the factors that affect the demand for a good or service.

These factors include:

i) Price of the Product

There is an inverse (negative) relationship between the price of a product and the
amount of that product consumers are willing and able to buy. Consumers want to buy
more of a product at a low price and less of a product at a high price. This inverse
relationship between price and the amount consumers are willing and able to buy is
often referred to as The Law of Demand.

ii) The Consumer's Income

The effect that income has on the amount of a product that consumers are willing and
able to buy depends on the type of good we're talking about. For most goods, there is a
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 positive (direct) relationship between a consumer's income and the amount of the good
that one is willing and able to buy. In other words, for these goods when income rises
the demand for the product will increase; when income falls, the demand for the
product will decrease. We call these types of goods normal goods.

However, for some goods the effect of a change in income is the reverse. For example,
think about a low-quality (high fat-content) ground beef. You might buy this while
you are a student, because it is inexpensive relative to other types of meat. But if your
income increases enough, you might decide to stop buying this type of meat and
instead buy leaner cuts of ground beef, or even give up ground beef entirely in favor
of beef tenderloin. If this were the case (that as your income went up, you were willing
to buy less high-fat ground beef), there would be an inverse relationship between your
income and your demand for this type of meat. We call this type of good an inferior
good. There are two important things to keep in mind about inferior goods. They are
not necessarily low-quality goods. The term inferior (as we use it in economics) just
means that there is an inverse relationship between one's income and the demand for
that good. Also, whether a good is normal or inferior may be different from person to
person. A product may be a normal good for you, but an inferior good for another
person.

iii) The Price of Related Goods

As with income, the effect that this has on the amount that one is willing and able to
buy depends on the type of good we're talking about. Think about two goods that are
typically consumed together. For example, bagels and cream cheese. We call these
types of goods compliments. If the price of a bagel goes up, the Law of Demand tells
us that we will be willing/able to buy fewer bagels. But if we want fewer bagels, we
will also want to use less cream cheese (since we typically use them together).
Therefore, an increase in the price of bagels means we want to purchase less cream
cheese. We can summarize this by saying that when two goods are complements, there
is an inverse relationship between the price of one good and the demand for the other
good.

iv) The Tastes and Preferences of Consumers

This is a less tangible item that still can have a big impact on demand. There are all
kinds of things that can change one's tastes or preferences that cause people to want to
buy more or less of a product. For example, if a celebrity endorses a new product, this
may increase the demand for a product. On the other hand, if a new health study
comes out saying something is bad for your health, this may decrease the demand for
the product. Another example is that a person may have a higher demand for an
umbrella on a rainy day than on a sunny day.

v) The Consumer's Expectations

It doesn't just matter what is currently going on - one's expectations for the future can
also affect how much of a product one is willing and able to buy. For example, if you
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 hear that Apple will soon introduce a new iPod that has more memory and longer
battery life, you (and other consumers) may decide to wait to buy an iPod until the
new product comes out. When people decide to wait, they are decreasing the current
demand for iPods because of what they expect to happen in the future. Similarly, if
you expect the price of gasoline to go up tomorrow, you may fill up your car with gas
now. So your demand for gas today increased because of what you expect to happen
tomorrow. This is similar to what happened after Huricane Katrina hit in the fall of
2005. Rumors started that gas stations would run out of gas. As a result, many
consumers decided to fill up their cars (and gas cans), leading to long lines and a big
increase in the demand for gas. This was all based on the expectation of what would
happen.

vi) The Number of Consumers in the Market

As more or fewer consumers enter the market this has a direct effect on the amount of
a product that consumers (in general) are willing and able to buy. For example, a pizza
shop located near a University will have more demand and thus higher sales during the
fall and spring semesters. In the summers, when less students are taking classes, the
demand for their product will decrease because the number of consumers in the area
has significantly decreased.

vii) Advertisement
Advertised goods normally have higher demand because of the level of awareness.
Consumers will only buy goods and services when they are aware of the existence of
those products. Advertisement will attract people to purchase more of the advertised
goods and services.

3.2 To formulate the demand function of a product ( paint sales ) based on the
identified demand determinants ( price , income , advertisement )

(a) Specify the demand function of the paint industry in linear and
multiplicative functional forms

Paint sales (Y) were hypothesized to be a function of 3 variables that is :

Advertisement expenditures (M), Price (P) and, Income (A)

Linear functional form

The linear demand function for the paint industry is :

Q = α + ß1A + ß2P+ ß3M + ε

Multiplicative functional form (non-linear)

The multiplicative demand function for the paint industry is :

Q = αAβ1 Pβ2 Mβ3

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 This function can be transform to a simple linear relationship in logarithms as
below

ln Q = ln α + β1 ln A + β2 ln P + β3 ln M + ε

3.3 To estimate the demand function using multiple linear regression using a
statistical software ( Excel )

To estimate the demand function using multiple linear regression using a statistical
software

Coefficients
Intercept-α 310.2447864
β1-P-Price ( RM / gallon ) -12.20249514
β2-M-Income ( RM1,000 ) 2.676784255
β3-A-Advertisetment ( RM 1,000 ) 0.007716903

From the coefficient column, the following regression equation is obtained:

Y = 310.244 – 12.202P + 2.68 INC+ 0.008 ADV

(95.075) (4.582) (3.160) (0.204)

Which Y= Sales, P= Price/gallon, INC= Income, ADV= Advertisement

Let say we are interested in estimating the sales( demand function) where the price per
gallon is 15,The INC is 19 and the ADV is 150.The next step is substituting these values
into the equation:

ŷ = 310.244 – 12.202 (15)+ 2.68 (19)+ 0.008 (150) = 179.334

3.4 To obtain the related demand elasticity’s, namely, the price elasticity of
demand, cross price elasticity of demand and income elasticity of demand
from the estimated demand function

(b) Determine the estimated regression line in linear form. Give an

interpretation of the slope coefficient

The linear demand function for the paint industry is :

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 Q = α + ß1A + ß2P+ ß3M + ε

With the summary outputs from a regression analysis (Apendix 1), the linear
demand function is determined by replacing the coefficients to the function above :

Y = 310.245 - 12.202P + 2.677 M + 0.008A

(95.075) (4.582) (3.160) (0.204)

The slope (β) coefficients for P is -12.202 which interprets as :

With RM1 increase in price, will result in the decrease of sales by 12,202 gallons
in a given sales region. Ceteris paribus.
The negative sign of this β1 coefficient is logical, it explains about the nature for
utility maximization subject to budget constraint.

The slope (β) coefficients for M is 2.677 which interprets as :

With RM1,000 increase in income, will result in the increase of sales by 2,677
gallons in a given sales region. Ceteris paribus
The positive sign of this β2 coefficient is logical; it explains that paint is a superior
good. The more income consumers gain, the higher demand for paint (higher
sales).

The slope (β) coefficients for A is 0.008 which interprets as :

With RM1,000 increase in advertisement expenditures, will result in the increase
of sales by 8 gallons in a given sales region. Ceteris paribus
The positive sign of this β3 coefficient is logical; it explains that paint sales is
influenced by advertising effort. The more advertising is done, the sales go higher.
However advertising is a small contributing factor based on the value.

4 Analysis

4.1 T-test

( c ) T-Test is used to test the null hypothesis between the independent

variable

To test the null hypothesis between variables at 0.05 significance level,

Tk/2,n-m-1=T0.025,6 = ± 2.447

Standard
Coefficients Error t Stat P-value
Intercept 310.24479 95.07486 3.26316 0.01718
Price ( RM / gallon ) -12.20250 4.58207 -2.66310 0.03737
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 Income ( RM1,000 ) 2.67678 3.16007 0.84706 0.42945
Advertisement ( RM 1,000 ) 0.00772 0.20406 0.03782 0.97106

For price , t = -12.203 / 4.585= -2.662

For Income, t = 2.677 / 3.160= 0.847
For Advertisement, t = 0.008 / 0.204=0.04

Based on computer output:

1. Price variable has significance level of 3.7% which means confidence level is 96.3
(>95%). Therefore we reject the null hypothesis Ho : βi = 0 against the alternative
hypothesis Ha : βi ≠ 0 and conclude that only selling price is statistically significant
in explaining paint sales at 0.037 significance level.

2. Income variable has significance level of 42.95% which mean confidence level is
only 57.05% (<95%). Therefore we accept the null hypothesis Ho : βi = 0 and there
is no relationship between the variable paint sales and disposable income.
Disposable income variable is not statistically significant in explaining paint sales
at 0.05 significance level.

3. Advertisement expenditure variable has significance level of 97.10% which mean

confidence level is only 2.9% (<95%). Therefore we accept the null hypothesis Ho
: βi = 0 that there is no relationship between the variable paint sales and
advertisement expenditure. Advertisement expenditure variable is not statistically
significant in explaining paint sales at 0.05 significance level

Comparison to table value (extra effort):

T-Value for Price, (|-2.663|) is greater than Tk/2,n-m-1=T0.025,6 = ± 2.447 therefore we
reject the null hypothesis Ho : βi = 0 against the alternative hypothesis Ha : βi ≠ 0
and conclude that only selling price is statistically significant in explaining paint
sales at 0.05 significance level

The calculated t-value (0.847) for income is less than t-value from the table
(2.447), therefore we accept the null hypothesis at the 0.05 significance level that
there is no relationship between the variable paint sales and disposable income.
Disposable income variable is not statistically significant in explaining paint sales
at 0.05 significance level

The calculated t-value (0.040) for advertisement is less than t-value from the table
(2.447), therefore we accept the null hypothesis at the 0.05 significance level that
there is no relationship between the variable paint sales and advertisement
expenditure. Advertisement expenditure variable is not statistically significant in
explaining paint sales at 0.05 significance level

To test the null hypothesis between variables at 0.01 significance level ,

Tk/2,n-m-1=T0.005,6 = ± 3.707

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 The calculated t-value ( -2.662 ) for selling price is less than Tk/2,n-m-1=T0.005,6 = ±
3.707, therefore we accept the null hypothesis at the 0.01 significance level that
there is no relationship between the variable paint sales and selling price. Selling
price variable is not statistically significant in explaining paint sales at 0.01
significance level.

The calculated t-value (0.847) for disposable income is less than Tk/2,n-m-1=T0.005,6 =
± 3.707, therefore we accept the null hypothesis at the 0.01 significance level that
there is no relationship between the variable paint sales and disposable income.
Disposable income variable is not statistically significant in explaining paint sales
at 0.01 significance level.

The calculated t-value (0.040) for advertisement is less than Tk/2,n-m-1=T0.005,6 = ±

3.707, therefore we accept the null hypothesis at the 0.01 significance level that
there is no relationship between the variable paint sales and advertisement
expenditure. Advertisement expenditure variable is not statistically significant in
explaining paint sales at 0.01 significance level

4.2 Coefficient of determination

( d ) Interpret the coefficient of determination

Coefficient of determination is a measure of the proportion of total variation in the

dependent variable (paint sales) that is explained by the independent variables
selling price, disposable income and advertisement expenditures.

r2 = SSR/SST
r2 = 6829.866 / 8650.000
r2 = 0.790

Adjusted R2 = 0.684 (from regression output)

The value 0.684 indicating that 68.4% of the variability in the "Paint Sales" where
variable is explained by the "selling price" and "disposable income" and
"adverstisement expenditures" variables.

This squared multiple R value is a measure of the overall "fit" of the regression
model (based on text book pg. 135). The adjusted R-Square attempts to yield a
more honest value to estimate R-Square. Adjusted R-Square is computed using the
formula

Adjusted R2 = 1-((1-R2).(N-1)/(N-k-1))
= 1-((1-0.790).(10-1) / (10-3-1))

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 = 1-(0.21*9/6)
= 0.685

4.3 F-test

(e) Conduct an F-Test

Relevant computer output:

Significance
df SS MS F F
Regression 3 6829.86619 2276.62206 7.50480 0.01870
Residual 6 1820.13381 303.35564
Total 9 8650.00000

F-value is used to test the hypothesis that all the independent variables (P,M,A)
together explain a significant proportion of the variation in the dependent variable,
Y. (based on text book pg. 135)
To test the null hypothesis:

H0 : All βi = 0 against Ha: At least one βi != 0

The F-test does not indicate which of the variable coefficient is not equal to zero,
only that at least one of them is linearly related to the dependent variable.

F-value from the computer output is 7.5048

It is actually a derived from:
F = Mean Square of Regression / Mean Square of Error
F = 2276.622 / 303.356{computer output = 7.50479568864278}
F = 7.505
For significance at 0.05 level For Significance at 0.01 level
Fk,m,m-m-1=F1.05,3,6 = 4.76 F1.05,3,6 = 9.78

Based on computer output, F is significant at 0.019 level (<0.05). This means, it’s
definitely significant at 0.05 level.
For extra understanding, if we want to check the F value manually for its
significance:

The F-value (7.505) from the data is greater than the F-value from the table (4.76),
therefore we shall reject at the 0.05 significance level the hypothesis that there is
no relationship between the paint sales and its variables. The larger values of the
test statistic provide evidence against the null hypothesis.

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 F-test conducted for 0.01 level of significance the null hypothesis should be
accepted since the calculated value 7.505 is less than table value 9.78.

4.4 Relevant elasticity’s and interpret

(f) Compute the relevant elasticity’s and interpret

Elasticity in this issue;-

Elasticity of demand is an elasticity used to show the responsiveness of the quantity
demanded of a good or service to a change in its contributing factors. In our
analysis we look into price elasticity, income elasticity and advertising elasticity.

Estimated regression equation,

Y = 310.245 - 12.202P + 2.677 M + 0.008A

(95.075) (4.582) (3.160) (0.204)
Region

Income Advertisement
Sales ( 1,000 gallons ) Price ( RM / gallon ) (RM1,000) (RM 1,000 )
1 160.0 15.0 19.0 150.0
2 220.0 13.5 17.5 160.0
3 140.0 16.5 14.0 50.0
4 190.0 14.5 21.0 190.0
5 130.0 17.0 15.5 90.0
6 160.0 16.0 14.5 60.0
7 200.0 13.0 21.5 140.0
8 150.0 18.0 18.0 110.0
9 210.0 12.0 18.5 200.0
10 190.0 15.5 20.0 100.0
n=10 1,750.0 151.0 179.5 1,250.0
Min 175.00 15.10 17.95 125.00

When average value of P = 15.10

Q = 310.245 – 12.202(15.10) + 2.677(17.95) + 0.008(125.00)
= 310.245 – 184.25 + 48.05 + 1
= 175.05

We will use calculus method with average values derived in the table above.

Price elasticity of demand = (% Change in Quantity demanded) / (% Change in

Price)
_
@Vivianne Pang 2010
 EP = (dQ / dP) * (P / Q)
= -12.202 * (15.10 / 175.05) ceteris paribus
= -1.053

The price elasticity of demand (own price elasticity) is 1.053. Since it is greater
than 1 in absolute terms, we could say that demand is Price Elastic, which also
means that paint is a superior good. If the price decline by 1%, the demand for
gallons of paint will increase by 1.503%. Changes in price per gallon are significant
contributing factor in the changes of paint sales demand.

Income elasticity of demand = (% Change in Quantity demanded) / (% Change in

Income)
_
EM = (dQ / dM) * (M / Q)
= 2.677 * (17.95 / 175.05) ceteris paribus
= 0.275

The income elasticity of demand is 0.275. Since it is less than 1 in absolute terms,
we could say that demand is Income Inelastic.

Advertising elasticity of demand = (% Change in Quantity demanded) / (% Change

in Advertising expenditure)
_
EA = (dQ / dA) * (A / Q)
= 0.008 * (125.00 / 175.05) ceteris paribus
= 0.006

Advertising elasticity of demand is 0.006. Since it is way less than 1 in absolute

terms, we could say that demand is advertising Inelastic.

The conclusion based on given data, demand of paint is price sensitive. Demand of
paint is income insensitive as well as advertising insensitive. Therefore, demand
can be increased by reducing price per gallon of paint.

5 Conclusion
Elasticity of demand measures how much the quantity demanded changes with a
given change in selling price of the item, change in consumers’ disposal income, or
change in other factors like advertising.
The law of demand defines the typical relationship between price and quantity
demanded, which states that consumers will demand more of a product at a lower
price, and less at a higher price. Though, the price elasticity of demand elaborates
this and studies the extent of such changes in demand in relation to price.
Advertising elasticity is significant in deciding on advertising budgets or allocation.
It is ideally positive. As the level of advertising increases, we would expect
advertising elasticity to reduce.
@Vivianne Pang 2010
 Computer aided multiple linear regressions; in this process we perform linear
regression on the selected set of given data using Microsoft Excel. This fits a linear
model of the form:

Y= b0 + b1X1 + b2X2+ .... + bmXm+ e

Y is the dependent variable (response) and X1, X2,.. .,Xm are the independent
variables (explanatory) while e is represents random error. b0 , b1, b2, .... bm are
referring to the regression coefficients. These regression coefficients are the values
which have to be estimated from the given data. The data analysis tool regression
chooses regression coefficients in such a way to minimize the variances or
differences between predicted values and observed values.
Linear regression is performed either to predict the dependent variable based on the
independent variables, or to analyze the relationship between the dependent
variable and independent variables. In our case of issue, the dependent variable is
the paint sales in thousands of gallons. Meanwhile “Selling Price (per gallon)”,
“Disposable Income (xRM1000)” and “Advertisement expenditures (xRM1000)”
are the independent explanatory variables. Using linear regression, the demand for
paint (sales) can be explained as a function of price, income and other factors like
advertising. The estimated regression line in linear form for this paint industry
analysis is:-

Y = 310.245 - 12.203P + 2.677M + 0.008A

(95.075) (4.582) (3.160) (0.204)

R2 value is a measurement on how fit the model explains the data. The differences
between observations which are not explained by the model remains in the term of
error. The percent of differences explained by the model is described by the value
of R2. Based on our analysis the value of R2 is 0.79 which means that 79% of the
variance in the observed values of the dependent variable is explained by the
model, and 21% of those differences remain unexplained in the term of error.
Significance level which is also known as P-value is the other number attached
along with each of the independent variables in the regression results. The p-value
is derived in percentage. P-value describes how likely it is that the coefficient for
that independent variable emerged by chance and does not describe a real
relationship. A p-value of 0.037 means that there is a 3.7% possibility that the
relationship emerged randomly and a 96.3% possibility that the relationship is true.
It is commonly accepted practice to consider variables with a P-value of less than
0.1 as significant.
Significance level for the model or equation as a whole is also another important
element that we analyzed. It is the “Significance F” value in computer output (MS
Excel). This measures the chance that the model as a whole describes a
relationship that emerged at random, rather than a true relationship. As with the P-
value, the lower the significance F value, the greater the chance that the
relationships in the model are real.

@Vivianne Pang 2010

6.References

1. Ferguson, Charles E. (1972). Microeconomic Theory (3rd ed.). Homewood, Illinois: Richard D.
Irwin

2. Perloff, J. (2008). Microeconomic Theory & Applications with Calculus.

Pearson.ISBN 9780321277947.

3. Wall, Stuart; Griffiths, Alan (2008). Economics for Business and Management. Financial Times
Prentice Hall.

4.Mei-Yu Wang,(2001 )The Document Supply industry : Supply and demand , MCB
University Press , Vol 50,No 3,2001-Pg 128-131

5.Smith , Todd , Jay Mabe and Jeff Beech,”Components of Demand Planning ,”Strategic
Supply Chain Alignment,Aldershot ,England : Gower Publishing Limited,1998 , pg 123-
137

6. Smaros, J., Lehtonen, J.M., Appelqvist, P. and Holmstrom, J. (2003), “The impact of
increasing demand visibility on production and inventory control efficiency”,
International Journal of Physical Distribution & Logistics Management, Vol. 33 No. 4, pp.
336-543

@Vivianne Pang 2010