Ever been to the cinema and found it almost empty? And then wondered why you paid the full price? Perhaps you’ve taken advantage of Orange Wednesday or only go if there’s a particularly good film on? Often it might be cheaper to wait until the film is out on DVD!
Going to the cinema can be an expensive outing. The ticket, the popcorm, a drink, ice cream – it all adds up! Orange Wednesday has recently disappeared and this will definitely have an impact on consumption of movies at your local Odeon, Vue or Showcase. The impact will be on how many seats are left empty.
However, a new app could be set to generate revenues for the cinema and provide cheaper entertainment for your everyday consumer. This new app will allow cinemas to send out alerts to people in the local area advising them that a screening will have many empty seats. What’s the incentive? Perhaps a discount, or some food. But, why would they do such a thing?
If a movie is being shown at a cinema, there will be a large fixed cost. However, what happens as each additional consumer enters the theatre? Does the cost to the cinema rise? Perhaps there is a small cost with more cleaning required, but the additional cost of actually showing the film if there 11 rather than 10 people is almost (if not equal to) zero. That is, the marginal cost of an extra user is zero. Therefore, if there is a screening with many empty seats, wouldn’t the cinema be better to offer the seats for half price. After all, if you can earn £5 from selling a ticket and the additional cost is almost zero, then it’s better to sell it for £5 than not sell it for £10! The following article and video from BBC News considers this new app and other strategies to maximise cinema usage!
Apps in pockets, bums on cinema seats BBC News, Dave Lee (27/2/15)
Questions
- What would the budget constraint look like for a cinema where a discount was offered if you purchased two cinema tickets and then received the third ticket for half price?
- Why is the marginal cost of an extra user at the cinema almost zero?
- If the MC = 0, does this mean that a cinema is a public good?
- How will this new app allow a cinema to increase total revenue and profit?
- If it is cheaper to buy a DVD rather than go to a cinema, why do people still go to the cinema?
House prices are always a good signal for the strength or direction of the economy. While there will always be certain areas that are more sought after than others and such differences will be reflected in relative house prices, the regional divide that we currently see in the UK is quite astonishing.
Prior to the financial crisis, house prices had been rising across the county, but in the year following the financial crisis, they declined by 19 per cent. It was only in 2013, when prices began to increase and, perhaps more importantly, when the variation in regional house prices began to increase significantly. In mid-2014, the UK’s annual house price inflation rate was 11.7 per cent, but the rates in London and the South East were 19.1 and 12.2 per cent, respectively. Elsewhere in the UK, the average rate was 7.9 per cent.
These regional differences have continued and figures show that the current differential between the cheapest and most expensive regional average house price is now over £350,000. In particular, data from the Land Registry shows that the average house price in London is £458,283, while in the North East, it is only £97,974.
Those people who own a house in London have benefited from such high house prices, in many cases finding that their equity in their house has grown significantly. Furthermore, any home-owners selling their house in London and moving elsewhere are benefiting from lower house prices outside London.
However, most first-time buyers looking for a house in London are being competed out of the market, finding themselves unable to gain a mortgage and deposit for the amount that they require. The opposite is, of course, happening in other parts of the country. First-time buyers are more able to enter the property market, but home-owners are finding that they have much less equity in their house.
This has also caused other problems, in particular in the labour market. Workers who are moving to jobs in London are finding the house price differentials problematic. Although wage rates are often higher in London than in other parts of the country, the house price differential is significantly bigger. This means that if someone is offered a job in London, they may find it impossible to find a house of similar size in London compared to where they had been. After all, an average family home in the North East can be purchased for under £100,000, whereas an average family home in London will cost almost £500,000.
The housing market is problematic because of particular characteristics.
Supply tends to be relatively fixed, as it can take a long time to build new houses and hence to boost supply. Furthermore, the UK has a relatively dense population, with limited available land, and so planning restrictions have to be kept quite tight, which is another reason why supply can be difficult to increase.
On the demand-side, we are seeing a change in demographics, with more single-person households; people living longer; second home purchases and many other factors. 
These things tend to push up demand and, with restricted supply, house prices rise. Furthermore, with certain areas being particularly sought after, perhaps due to greater job availability, ease of commuting, schools, etc., house price differentials can be significant.
The Conservatives, together with the other main parties, have promised to build more houses to help ease the problem, but this really is a long-run solution.
The Bank of England will undoubtedly have a role to play in the future of the housing market. The affordability of mortgages is very dependent on interest rate changes by the Bank’s Monetary Policy Committee.
Although house prices in London have recently fallen a little, the housing cost gap between living in London and other areas is unlikely to close by much as long as people continue to want to live in the capital. The following articles consider the housing market and its regional variations.
Articles
London’s homeowners have made £144,000 on average since 2009 International Business Times, Sean Martin (20/2/15)
Wide gap in regional house prices, Land Registry figures show BBC News, Kevin Peachey (27/2/15)
Mapped: 10 years of Britain’s house price boom (and bust) The Telegraph, Anna White (27/2/15)
Oxford houses less affordable than London Financial Times, Kate Allen (26/2/15)
January’s UK house prices show unexpected climb The Guardian (5/2/15)
House prices since 2008: best and worst regions The Telegraph, Tom Brooks-Pollock (22/8/14)
House prices hit new record high of £274k with six regions now past pre-crisis peak – but the North lags behind This is Money, Lee Boyce (14/10/14)
Data
House price indices: Data Tables ONS
Links to sites with data on UK house prices Economic Data freely available online, The Economics Network
Regional House Prices Q4 2014 Lloyds Banking Group
Questions
- What are the main factors that determine the demand for housing? In each case, explain what change would shift the demand curve for housing to the right or the left.
- Which factors determine supply? Which way will they shift the supply curve?
- Put the demand and supply for housing together and use that to explain the recent trends we have seen in house prices.
- Use your answers to question 1 – 3 to explain why house prices in London are so much higher than those in the North East of England.
- Why are interest rates such an important factor in the housing market?
- Explain the link between house prices and the labour market.
- Do you think government policy should focus on reducing regional variations in house prices? What types of policies could be used?
The recent low price of oil has been partly the result of faltering global demand but mainly the result of increased supply from shale oil deposits. The increased supply of shale oil has not been offset by a reduction in OPEC production. Quite the opposite: OPEC has declared that it will not cut back production even if the price of oil were to fall to $30 per barrel.
We looked at the implications for the global economy in the post, A crude indicator of the economy (Part 2). We also looked at the likely effect on oil prices over the longer term and considered what the long-run supply curve might look like. Here we examine the long-run effect on prices in more detail. In particular, we look at the arguments of two well-known commentators, Jim O’Neill and Anatole Kaletsky, both of whom have articles on the Project Syndicate site. They disagree about what will happen to oil prices and to energy markets more generally in 2015 and beyond.
Jim O’Neill argues that with shale oil production becoming unprofitable at the low prices of late 2014/early 2015, the oil price will rise. He argues that a good indicator of the long-term equilibrium price of oil is the five-year forward price, which is much less subject to speculation and is more reflective of the fundamentals of demand and supply. The five-year forward price is around $80 per barrel – a level to which O’Neill thinks oil prices are heading.
Anatole Kaletsky disagrees. He sees $50 per barrel as a more likely long-term equilibrium price. He argues that new sources of oil have made the oil market much more competitive. The OPEC cartel no longer has the market power it had from the mid 1970s to the mid 1980s and from the mid 2000s, when surging Chinese demand temporarily created a global oil shortage and strengthened OPEC’s control of prices. Instead, the current situation is more like the period from 1986 to 2004 when North Sea and Alaskan oil development undermined OPEC’s power and made the oil market much more competitive.
Kaletsky argues that in a competitive market, price will equal the marginal cost of the highest cost producer necessary to balance demand and supply. The highest cost producers in this case are the shale oil producers in the USA. As he says:
Under this competitive logic, the marginal cost of US shale oil would become a ceiling for global oil prices, whereas the costs of relatively remote and marginal conventional oilfields in OPEC and Russia would set a floor. As it happens, estimates of shale-oil production costs are mostly around $50, while marginal conventional oilfields generally break even at around $20. Thus, the trading range in the brave new world of competitive oil should be roughly $20 to $50.
So who is right? Well, we will know in twelve months or more! But, in the meantime, try to use economic analysis to judge the arguments by answering the questions below.
The Price of Oil in 2015 Project Syndicate, Jim O’Neill (7/1/15)
A New Ceiling for Oil Prices Project Syndicate, Anatole Kaletsky (14/1/15)
Questions
- For what reasons might the five-year forward price of oil be (a) a good indicator and (b) a poor indicator of the long-term price of oil?
- Under O’Neill’s analysis, what would the long-term supply curve of oil look like?
- Are shale oil producers price takers? Explain.
- Draw a diagram showing the marginal and average cost curves of a swing shale oil producer. Put values on the vertical axis to demonstrate Kaletsky’s arguments. Also put average and marginal revenue on the diagram and show the amount of profit at the maximum-profit point.
- Why are shale oil producers likely to have much higher long-run average costs than short-run variable costs? How does this affect Kaletsky’s arguments?
- Under Kaletsky’s analysis, what would the long-term supply curve of oil look like?
- Criticise Kaletsky’s arguments from O’Neill’s point of view.
- Criticise O’Neill’s arguments from Kaletsky’s point of view.
- Will OPEC’s policy of not cutting back production help to restore its position of market power?
- Why might the fall in the oil price below $50 in early 2015 represent ‘overshooting’? Why does overshooting often occur in volatile markets?
Most observers were once again left stunned by how much media companies are willing to pay to secure the rights to broadcast live games in the English Premier League (EPL). At the same time the method used to sell those rights is being investigated by Ofcom following complaints made by Virgin Media. Virgin Media actually requested that the auction was halted until the investigation was completed.
Between them, BSkyB and BT Sport have paid £5.136bn to purchase the rights to broadcast live matches in the EPL over a three-year period beginning in the 2016–17 season. This is a 71% increase in the price paid for the previous three-year deal which runs from 2013 to 2016 and cost £3.018bn. However, the headline figure hides some big differences between the amounts paid by the two companies.
How exactly are the rights sold? The broadcast rights for the 168 live matches are split up into seven different packages labelled A through to G and are placed in seven different auctions. The type of auction used by the EPL is a sealed bid auction. Interested companies are invited to make an offer for any of the packages. However, when they make a bid they do not know (a) if other firms have also made a bid and (b) the size of any other bids. Another constraint is that one firm is not allowed to win more than five of the auctions. When the auction finishes the EPL only releases information about the winning offers. It never provides information about any of the failed bids.
Some of the packages are worth more than others to the broadcasters. The first five packages (A–E) each contain the rights for 28 games per season, while the other two packages (F and G) contain the rights for 14 matches. In some of the packages all of the games kick off at the same time and on the same day. For example all 28 games in package ‘A’ kick off at 12.30pm on a Saturday. Others contain more of a mixture. Some of the games in Package E take place on a Monday evening. while others take place on a Friday evening. Given the potential advertising revenue and number of viewers, the most valuable package is D, which has 28 games that kick off at 4.00pm on a Sunday.
Another factor that influences the value of a package is the number of ‘first picks’. In any given week, more than one broadcaster might want to screen the same match. To overcome this problem, each package is allocated a number of first, second, third, fourth and fifth ‘picks’. For example, package D comes with 18 first and 10 fourth round picks. This means that whichever company wins this package will get first choice on the games they want to broadcast on 18 occasions a year. Package C contains no ‘first picks’ but offers 15 second, 4 fourth and 7 fifth round picks. There is also a maximum and a minimum limit on the number of times games including a specific team can be broadcast.
BSkyB won the auctions for packages A, C, D, E and G for a price of £4.17bn. This means that it will be paying £1.396bn to broadcast 126 live games per season. This is an average payment of £11,031,700 per game. In the previous deal it paid £760million for the rights to broadcast 116 live games per season. This is an average payment of £6,551,724 per game. The new deal represents a cost increase of 68% per game. However, the number of first picks BskyB has secured in the new deal increases from 20 to 26.
BTSport won the auctions for packages B and F for a price of £960m. This means that it will be paying £320m for the rights to broadcast 42 live games per season. This is an average payment of £7,619,048 per game. In the previous deal it paid £246 million per year for the rights to broadcast 38 live games per season. This is an average payment of £6,473,684 per game. The new deal represents an increase in costs of 17.7% per game for BT Sport – a much lower figure than for BSkyB.
BSkyB has stated that it will cover the increase in the price it has paid for the rights with efficiency savings. However, many observers believe that it will ultimately result in significant increases in the subscription rates for SkySports. The impact of the deal on BskyB’s profit may well depend on the willingness of its customers to pay higher prices. What is the price elasticity of demand for SkySports at the current subscription rates they are charging?
There is still some uncertainty about the deal following Ofcom’s decision to investigate the legitimacy of the method used by the EPL to auction the rights. Virgin Media made a formal complaint in September 2014 about the collective selling of the live broadcast rights and argued that it was in breach of competition law. The investigation by Ofcom will make a judgment about whether the joint selling of the rights by the EPL is a contravention of Chapter I of the Competition Act 1998 and/or Article 101(1) of the Treaty on the Functioning of the European Union. An initial announcement will be made in March.
Premier League set to announce record £4.4bn TV rights deal BBC Sport (10/2/15)
Premier League TV rights: What does deal mean for fans & clubs BBC Sport, Ben Smith (11/2/15)
How Sky paid £4m more per Premier League match than BT The Telegraph, Ben Rumsby (11/2/15)
Premier League TV deal: Windfall must benefit grass roots and England The Telegraph, Henry Winter (10/2/15)
Sky and BT retain Premier League TV rights for record £5.14bn The Guardian, Owen Gibson (10/2/15)
Premier League TV rights: Sky Sports and BT Sport win UK broadcasting rights as price tops £5billion Independent, Tom Peck (10/2/15)
Questions
- Draw a demand curve for package A and package D of the live broadcast rights. Which one do you think will be furthest to the right? Explain your answer.
- What are the potential benefits to the EPL of not revealing the details of any of the losing bids?
- Explain how the price elasticity of demand is a useful concept for assessing the impact of the new deal on the profits of BSkyB and BTSport.
- Given the impact of the new deal of the size of Parachute payments, what impact might it have on the level of competitive balance in the Championship?
- Find out the key provisions of Chapter I of the Competition Act 1998 and Article 101(1) of the Treaty on the Functioning of the European Union.
McDonalds is one of the most recognised names in the world and its iconic product, the Big Mac, is an obsession for many people – though I have to confess that I have never had one. McDonalds is taking advantage of this fact by auctioning off a bottle of its secret Big Mac sauce. The proceeds will go to charity.
McDonalds has around 36 000 stores around the world, located in over 100 countries. The Big Mac is sold in all of these stores and the famous sauce is available there for a pretty small price. However, on eBay, this bottle of sauce has already reached a bid of AU$23 100 (£11 800)! The 500m bottle is only being auctioned in Australia and with a few days before the auction finishes, the price may get still higher.
So, why are people prepared to pay such a high price for a bottle of sauce that is readily available on a Big Mac and which, in Australia, will be sold in small tubs throughout this month?
The advert on eBay suggests that the bottle is being set free and is ‘rarer than a spot on Bondi beach on New Years Day’. As we know, when products become scarce their price tends to rise. This auction will be the first time that this sauce is available, as normally the sauce is dispensed straight onto the burger. The ingredients of this famous sauce are known, but the recipe for making it is not. Perhaps it represents an opportunity for someone to try to re-create it!
An auction is an interesting mechanism to receive the highest price for any product. Most people have a maximum willingness to pay for something and if they pay less than that, they will receive some consumer surplus. However, with an auction, it can be a good way for the seller to force consumers to bid their maximum price and hence this can reduce the consumer surplus.
Of course, in this auction only the highest bidder will actually pay and so it will only be their consumer surplus that is affected. However, other auction designs, such as an ‘All-pay’ auction can extract the full consumer surplus from bidders. Mr Lollback, the Chief Marketing Officer said:
‘We’re excited to be auctioning off the first-ever bottle of Big Mac sauce for a cause we are passionate about… It’s going to be interesting to see just how much people are prepared to pay for such a sought after commodity.’
The final price will certainly be interesting and, with other bottles of this sauce available, we will have to wait and see whether or not further auctions take place or if other mechanisms of delivering the sauce to the public appear. The following articles consider the Big Mac sauce auction.
McDonald’s Big Mac sauce auction attracts $18,000 bid BBC News (3/2/15)
Liquid Gold! Macca’s auction off the only bottle of its trademark Big Mac special sauce in Australia … and bids have already reached $23,000 Mail Online, Leesa Smith (3/2/15)
Bottle of McDonald’s secret Big Mac sauce up for auction USA Today, Jessica Durando (3/2/15)
McDonald’s Big Mac special sauce yours to own from today The Telegraph, Richard Noone (29/1/15)
Questions
- Why does the price of a product rise when it is scarce? Use a diagram to explain this.
- What is consumer surplus and how can a firm aim to extract as much of this as possible? Why would a firm want to do this? Use a diagram to illustrate the concept of consumer surplus and how it can change.
- Why can an auction push up the market price of a product?/li>
- Given that the Big Mac sauce is available on all Big Macs, which can be purchased for a very low price, what explanation can be given for people being prepared to pay over £10,000?
- When are auctions a good mechanism to sell a product?
- What are the different types of auctions that can occur? How do they vary in terms of the price that can be achieved?
