Question

CASE #1: COCA COLA

The Coca-Cola company started 110 years ago as a small, insignificant one man business. Since then, it has grown into one of the largest companies in the world. The first chairman of the company was Dr. John Pemberton and the current chairman is Muhtar Kent. The demand for this product has made this company into a 50 billion dollar business.

Coca-Cola was invented by Dr. John Pemberton, an Atlanta pharmacist. He concocted the formula in a three legged brass kettle in his backyard on May 8, 1886 by mixing lime, cinnamon, coca leaves, and the seeds of a Brazilian shrub. (Things Go Better With Coke 14). Coca-Cola, as he called the beverage, made its debut in Atlanta's largest pharmacy, Jacob's Pharmacy, as a five cent non- carbonated drink. Later on, the carbonated water was added to the syrup to make the beverage that we know today.

Coca-Cola was named by Frank Robinson, one of Pemberton's close friends. Pemberton, in a state of poor health and in debt, was forced to sell a portion of the company to Asa Candler. In time, Candler acquired the whole company for $2,300.

Candler achieved a lot during his time as owner of the company. On January 31,

1893, the famous Coca-Cola formula was patented. He aggressively advertised Coca-Cola in newspapers and on billboards. In the newspapers, he would give away coupons for a free Coke at any fountain. Coca-Cola was sold to Ernest Woodruff in 1919 for 25 million dollars. He gave control of Coca-Cola to his son, Robert Woodruff, who would be president for six decades.

Woodruff introduced the six bottle carton in 1923. He also made Coca-Cola available through vending machines in 1929. That same year, the iconic Coca- Cola bell glass was made available. He started advertising on the radio in the 1930s and on television in 1950.

Currently Coca-Cola is advertised on over five hundred TV channels around the world. Often considered the best known trademark in the world, Coca-Cola is sold in about one hundred and forty countries to 5.8 billion people in eighty different languages. This is why Coca-Cola is the largest soft drink company in the world. Coca-Cola is worth more than 58 billion dollars on the stock market (Coca-Cola, The Coca-Cola Company 232).

For more than 65 years, Coca-Cola has been a sponsor of the Olympics. One way to see all of the achievements of the Coca- Cola company is to visit the World of Coke in Atlanta. It houses a collection of memorabilia, samples of the products, exhibits, and many other interesting items.

Cost of production of coke is very low because it is nothing but water mixed with some sweetener and color. Demand for coke is growing. Rich and poor, young and old, everyone likes Coca Cola.  

CASE #2: EXXON MOBIL CORPORATION

Over the last 125 years ExxonMobil has evolved from a regional marketer of kerosene in the U.S. to the largest publicly traded petroleum and petrochemical enterprise in the world. Today it operates in most of the world's countries and is best known by the familiar brand names: Exxon, Esso and Mobil. The company makes the products that drive modern transportation, power cities, lubricate industry and provide petrochemical building blocks that lead to thousands of consumer goods.

Exxon Mobil Corporation engages in the exploration and production of crude oil and natural gas, and manufacturing of petroleum products, as well as transportation and sale of crude oil, natural gas, and petroleum products. The company manufactures and markets petrochemicals, including olefins, aromatics, polyethylene and polypropylene plastics, and other specialty products. It also has interests in electric power generation facilities.

As of December 31, 2011, the company operated 37,692 gross and 31,683 net operated wells. Exxon Mobil Corporation has a strategic agreement with the Rosneft Oil Company for investment into oil and gas fields in the Russian

Federation. The company has operations in the United States, Canada, South America, Europe, Africa, Asia, and Australia/Oceania. Exxon Mobil Corporation was incorporated in 1882 and is based in Irving, Texas.

Finding, drilling, refining, shipping and selling to customers all contribute to the cost of gasoline. It is costly to produce and supply.

Gasoline is the main product that Exxon Mobil markets throughout the world, and is very important for the modern world. In addition to being used by cars, trucks, tractors, ships, planes, and many other vehicles, it is also used to run many mills and factories, and in many power plants to generate electricity. We know that we have limited supplies of oil and one day we shall run out of the gasoline derived from it. Yet, we pay roughly the same price for a liter of gasoline as we pay for a liter of coca cola.

As far as demand for petrol goes, most of the petrol is used to run cars. In order to own and run a car there are some restrictions. A driver has to be an adult and must have a driving license. Petrol is also sold from specially designed petrol pumps which are costly to build and operate. In contrast, Coke is sold everywhere and can be bought by anyone. One does not have to be an adult or owner of a car to buy coke.

Comparative Questions

What is the price elasticity of demand for gasoline? Is it elastic or inelastic? How about carbonated beverages?

What is the Income Elasticity of demand for carbonated beverages and gasoline? Which one has the higher elasticity?

Answer 1

Price elasticity of demand (e_p) refers to the degree of responsiveness in quantity demanded due to change in price.

Income elasticity of demand refers to the degree of responsiveness in quantity demanded of a commodity due to change in money income of the consumer.

There are a number of factors that affect the price and income elasticity of demand of every good/service and determine whether demand is relatively elastic or relatively inelastic.

A few of the important determinants that are common to both the types of elasticity are as follows:

1. Nature of the commodity- whether it’s a necessity or a luxury.
2. Availability of Close substitutes
3. Possibility to Defer purchase of the commodity
4. Proportion of income spent on the commodity.

In the light of these factors, a comparison can be made between the elasticities of Coke and Gasoline. The most important thing to note here is that, the question asks about the price and income elasticities of beverages and gasoline in general and not about the elasticities of the companies Coca-Cola andExxon Mobil Corporation in particular.

Firstly, Coke is a beverage that is not a necessary commodity. One can do away with it and still continue to live (ignoring the case of extreme addiction to carbonated beverages which goes against the law of demand), as opposed to the demand for gasoline which is complementary to the functioning of cars and is more necessary in general than carbonated beverages. Secondly, there are very close substitutes of Coca-cola by the names of Pepsi etc which satisfy the demands of consumers almost equally. Moreover, the whole group of carbonated beverages has close substitutes in the form of other chilled non-carbonated drinks to satisfy one’s taste. On the other hand, not many close alternatives to gasoline are available. Even if there are substitutes to gasoline, they are either pricey or hasn’t been tapped properly enough for consumers to be well aware of it.

Thirdly, it is very much possible to defer the consumption of carbonated beverages (if one’s thirsty one can simply drink water) but it’s not possible to defer the purchase of gasoline is one is out of gas and needs to run a car. Fourthly, unless one is grossly addicted to carbonated beverages, generally the proportion of income spent is larger on gasoline that on beverages.

Thus, to sum it up, when the price of both gasoline and beverages rises by the same proportion, the percentage fall in quantity demanded for beverages will be more than the percentage fall in quantity demanded for gasoline. Thus, the price elasticity of demand for carbonated beverages is relatively elastic and the price elasticity of demand for gasoline is relatively inelastic.

In order to understand the income elasticity of demand, let us assume that the price of both commodities remains the same, but the money income of the consumer falls.

In that case, the consumer might purchase a smaller car or at the most be forced to sell of his car and avail public transport. However, even though he curtails the consumption of carbonated beverages, he might still buy a small pack or two for occasional satisfaction of his tastes. Similarly, since there are no cheaper and close substitutes of gasoline, whereas for beverages there are, the overall demand for gasoline will fall more than the overall demand for carbonated beverages.

A very small proportion of income is usually spent on the consumption of carbonated beverage, but a large portion of the income is spent on the consumption of gasoline. Thus, when it comes to income elasticity of demand, the demand for gasoline is relatively elastic but that for carbonated beverages if relatively inelastic.

Probably the most important reason why this happens is because of the quantities in which each of the two goods are consumed. Depending on the usage of the car, one single purchase of gasoline can be of 10Lts which again needs to be replenished (maybe in a week) as soon as the tank gets empty. However, it is impossible for the same single consumer to buy 10L of carbonated beverages and drink it every week. Even though the price per litre of Coca-Cola and gasoline is roughly the same, one buys much less quantity of Coke and spends fewer proportion of his income on Coke. Thus the impact of a fall in income is not as much on carbonated beverages as it is on gasoline.