Demand Forecasting

Demand Forecasting

Major functional area Managerial Economics. In estimate of the future course of market demand for a product. The aim of Demand forecasting is to reduce the risk or uncertainty that the firm faces in its short term operational decision making and Planning for its long-term growth.

Significance of Demand Forecasting:

Production Planning: Sales Forecasting: Budgeting: Inventory Control: Long-term Investment Program : Stability: Economic Planning and Policy making :

SHORT TERM AND LONG TERM FORECASTING

In the short run forecasting is concerned with day to-day operations Long term forecast useful in Business planning, Financial planning & Man-power planning.

STEPS IN DEMAND FORECASTING

Specification of objectives : Identification of demand determinants Choice of methods of forecasting : Interpretation :

Methods of forecasting

Forecasting techniques range from nave and inexpensive to sophisticated and expensive. Methods can be put in to two categoriesSurvey and statistical methods

Case study-Why Did OPEC Fail to Keep the Price of Oil High?

In the 1970s members of OPEC decided to raise the world price of oil in order to increase their income and profit They jointly reducied the amount of oil they supplied. From 1973 to 1974, the price of oil rose more than 50 % Then, a few years later, OPEC did the same thing again. The price of oil rose 14% in 1979, followed by 34 % in 1980, and another 34 % in 1981. Yet OPEC found it difficult to maintain a high price. From 1982 - 1985 the price of oil steadily declined at about 10 % per year.

Dissatisfaction soon prevailed among the OPEC countries. In 1986 cooperation on among OPEC members completely broke down, and the price of oil plunged 45% In 1990 the price of oil was back to where it began in 70s and it stayed at that low level throughout most of the 1990s. Question--What prevented OPEC from maintaining this high price through the1980s?

. What prevented OPEC from maintaining this high price through the1980s? This episode shows how supply and demand can behave differently in the short run and in the long run.

Case study -2

Economists have observed that family spending on restaurant meals declines more during economic downturns than does spending on food to be eaten at home. How might the concept of elasticity help to explain this phenomenon?

Case study-3

Two driversTom and Jerryeach drive up to a gas station. Before looking at the price, each places an order. Tom says, Id like 10 gallon of gas. Jerry says, Id like $10 of gas. What is Each drivers price elasticity of demand?

Does Drug interdiction Increase or Decrease Drug-Related Crime?

Policies to Reduce the Use of illegal Drugs only reduces the supply of drugs from S to S1. With inelastic demand, the price roses to P1 to P2falls even though consumption falls marginally. By contrast, drug education reduces the demand for drugs from D1 to D2 Both price and consumption falls from P1 to P2 and Q1 to Q2

Methods of Demand forecasting

Survey and Statistical methods

Survey Method

Most direct method of demand forecasting in the short-run. Market survey may be conducted to obtain the information on Total market demand, consumers income levels, their tastes, and choice

Complete Enumeration Survey/Census Market Inquiry:

It is an enquiry of the entire universe or population. But this is a costly and time consuming affair Errors and bias are bound to peep in. Enumerators may also cheat, leading to wrong results

2. sample survey

Under sample Survey a few samples are selected to obtain details and statistical inferences are drawn for the entire population from these samples.

Forecasting techniques

Consumer Survey Method :

1.Interviewing the consumers directly to get information about their purchase plans. 2.Questionnaires may also be sent by post, E-mails or through field investigations. This method is direct and simple.- an inexpensive method.

Collective Opinion Or sales-force polling.

Under this, the salesman report to the headoffice, their estimates of sales in their territories. Such information can also be obtained from retailers and wholesalers. These forecasts are aggregated and generalization is made

Expert Opinion / Delphi method.

Opinions of different experts are sought, exchanged, analyzed &generalizations are drawn. The process of expert opinion analysis goes on till some sort of unanimity is arrived among all experts.

Market Experimentation

May also be conducted to make certain observations.

Laboratory Experimentation: /consumer clinic method.

A small laboratory is formed by creating an artificial market situation. The selected consumers are given funds to buy certain items. Inferences are drawn from their behavior.

Test-marketing/Controlled experiments :

A market experiment is performed under actual market conditions. The business firm conducts experiments under controlled conditions by varying one or more of the demand determinants like price, Quantity, Packing, advertisement etc. Consumer behavior is recorded and demand is forecasted.

2. Statistical Methods of Demand Forecasting :

It is more scientific than crude value judgment to estimate future demand. more commonly used in the modern days Inferences are based on either Time series data or Cross-sectional data. Varieties of statistical tools are used

1.Consumption Level Method :

Demand may be estimated on the basis of co-efficient of income elasticity and price elasticity of demand. D1=D(1+Y Ey) Or D1=D(1+P Ep) Where D = Projected demand Y & P =Relative change in income or price Ey & Ep = respective elasticity coefficients

Trend Projection Method :

A firm which has been in existence for a long time will have accumulated data on sales pertaining to different time periods. When such data is arranged chronologically it is known as Time Seriesdata. Trend projections are made on the basis of timeseries data pertaining to the demand function.

Regression Analysis and Econometric Method:

Most frequently used method for estimating demand. The parameters of the demand function are estimated through regression analysis by an equation. A relationship is established between quantity demanded & independent variables such as income, price

Since Qx=f (Px, I, N, Py, T,) Qx = ao + a1P+ a2I + a3N+ a4Py..e) Where, the as are the parameters (coefficients) to be estimated, and e is the error term. Change in (i.e., the marginal effect on) the dependent variable (Qx) for each one-unit change in the independent or explanatory variable

Once the relationship is established, the regression equation is derived, assuming linear relationship. The equation that is used for predicting demand is y = a + bx. Once such regression equation is derived the value of y ie. The quantity demanded can be estimated for any given value of x.