Section A: Microeconomics (Total = 40 Marks)
The Economics Of Panic Buying (Mar 5, 2020,06:17pm EST)
This Tuesday evening at 7:05 p.m., Justin Wolfers, an economics professor at the University of Michigan, started a provocative Twitter thread about panic buying. Spurred by fear of the spreading coronavirus, shoppers have been mobbing stores worldwide. They’re stockpiling canned goods, flour, sugar, bottled water, hand sanitizer—and toilet paper.
In Australia, where Wolfers was born, one desperate customer reportedly pulled a knife trying to score the last roll on the shelf at a Woolworths Supermarket in Sydney.
Wolfers believes desperate buyers aren’t crazy. “The economics of toilet paper shortages is the same as bank runs,” he tweeted. You stockpile toilet paper because others are stocking up too, depleting supplies.
“My argument is simply that panic buying can be rational,” said Wolfers in a phone interview with Forbes on Wednesday. “There is nothing inherent in markets that prevents this.” Until the FDIC started guaranteeing bank deposits in 1933, it made sense for nervous savers to pull their money out when they saw their neighbors doing the same.
What can be done to preclude toilet paper shortage-sparked violence? “The U.S. needs a strategic toilet paper reserve,” said Wolfers, guaranteeing that Americans have the supplies they need should stores run out.
In all seriousness, what does Wolfers think fear-sparked buying means for U.S. retailers like Costco, Walmart, Target and Kroger? “In the short term it’s good news,” he says, because extra purchases spike revenues. But in the long run, it’s unlikely to change those companies’ fortunes. “Once they have more toilet paper, people aren’t going to poo more,” he says. They’ll wait until their supply runs out to make further purchases.
Oliver Chen, a retail analyst at Cowen in New York, says virus-driven panic buying is giving a boost to curbside services offered by companies like Target and Walmart. Target reported this week that once customers try the service, where they order and pay online and then pick up their purchases at a designated spot outside a store, they increase their spending at Target by 25%. Cowen estimates that only 10% to 11% of shoppers use the service, leaving plenty of room for growth.
One more plus for retailers: “When you use the curbside service, it increases your loyalty as a shopper,” says Chen. He predicts that panic buying will drive up sales by 1% to 2% in the first quarter at retailers who sell groceries and staples. Given that operating margins are a low 3% to 7%, even a small increase in sales is significant.
Sucharita Kodali, an analyst at Forrester, says many retailers have missed an opportunity to hike prices during the scare. “What should have been a winning lottery ticket these guys were handed, they basically squandered,” she says. Without gouging customers, stores could have easily hiked prices by 10% or more on staples and banked the extra profit. “A lot of retailers foolishly let that opportunity pass,” she says. (Most state price-gouging laws, barring increases of 10% or more, only kick in after a state of emergency has been called.)
Wolfers disagrees with Kodali about the wisdom of price hikes during a perceived public health crisis. “Costco’s implicit promise to the customer is, ‘We will never screw you,’” he says. “Raising prices on toilet paper would destroy that trust.”
Rupesh Parikh, a retail analyst at Oppenheimer, says Costco made the right call to hold prices steady. “Costco is a company that puts the customer at the center of everything they do,” he says.
Today Costco reported that February 2020 sales increased 13.8% over the previous year due to “concerns over the coronavirus.” Though Parikh rates the stock a “buy,” he doesn’t believe the Issaquah, Washington-based chain, whose revenue hit $155 billion last year, will benefit from coronavirus buying in the long run. Shoppers who bought extra staples in February will wait to replenish them, possibly causing a sales dip in coming months. “If people don’t use up their supplies, that poses a risk going forward,” he says.
On 5 March 2020 in Australia where there were 52 confirmed cases of coronavirus including 2 deaths, a Costco store in Canberra had reportedly set limits on toilet paper purchases. Customers could buy no more than two 48-roll packs at a time. That should last them a while.
Assessment Tasks:
Study the economics of panic buying above and complete the following tasks
Complete all 4 tasks:
- Use the demand and supply model to illustrate the panic buying described in the case study above. Discuss whether there is an increase in demand or an increase in quantity demanded during the panic buying and explain your answer. (5 Marks)
- Discuss the impact of the panic buying, which you illustrated in task 1 on the market equilibrium and explain the main causes leading to the changes in the market equilibrium.
(5 Marks)
- Use the demand and supply model to illustrate the sellers’ responses to the panic buying, such as the curbside service provided by Target and Walmart. Discuss the impact of the curbside service on the market equilibrium. (10 Marks)
- Assuming one of the retailers has the following cost schedule for a particular product:
| Output (tones) | Fixed Cost | Variable Cost | Total Cost | Average Fixed Cost-AFC | Average Variable Cost-AVC | Average Total Cost | Marginal Cost- |
| -ATC | MC | ||||||
| 0 | 20 | ||||||
| 1 | 22 | ||||||
| 2 | 25 | ||||||
| 3 | 35 | ||||||
| 4 | 48 | ||||||
| 5 | 62 | ||||||
| 6 | 80 | ||||||
| 7 | 100 |
- Complete the table above. (10 Marks)
(Hint: use excel table to do the calculation.)
- Before the pandemic the market price was 13. What is his optimal output quantity? How much profit the producer was able to make in this case? (5 Marks)
- Due to the panic buying the market price increased to 18. How much profit was he able to make at this price? (5 Marks)
Section B: Macroeconomics (Total = 40 Marks)
Impact of COVID 19 on the Australian economy
The outlook for the Australian and global economies is being driven by the COVID-19 pandemic. The necessary social distancing restrictions and other containment measures that have been in place to control the virus have resulted in a significant contraction in economic activity, but economic conditions will improve as the pandemic is brought under control and containment measures are relaxed.
Global GDP is expected to fall sharply in the first half of 2020. The declines in the March quarter were driven by a contraction in Chinese and euro area activity as well as the rollout of containment measures elsewhere late in the quarter. A further fall in global GDP is expected in the June quarter, with many countries expected to record quarterly declines in GDP.
The Australian economy is expected to record a contraction in GDP of around 10 per cent over the first half of 2020; total hours worked are expected to decline by around 20 per cent and the unemployment rate is forecast to rise to around 10 per cent in the June quarter. Inflation is expected to be negative in the June quarter largely as a result of lower fuel prices and free child care.
Fiscal Policy Responses
Since the onset of the COVID pandemic, the Federal Government has provided $257 billion in direct economic support to cushion the blow and strengthen the recovery. The 2020-21 Budget commits a further $98 billion including, $25 billion in direct COVID-19 response measures and $74 billion in new measures to create jobs, bringing the Government’s overall support to $507 billion.
Monetary Policy responses
The Reserve Bank of Australia has reduced the cash rate to 0.10%
Possible Outcome
A plausible baseline scenario is that the various restrictions are progressively relaxed in coming months and are mostly removed by the end of September, except for some restrictions such as international travel. If this occurs, and the spread of the virus in Australia remains limited, GDP growth is likely to turn around in the September quarter and the recovery would strengthen from there. In fact, the GDP decreased by 7.0% in the June quarter and it rebounded in the September quarter by 3.3%.
Reference
KPMG, Australia Government and institution measures in response to COVID-19, Dec 2020, https://home.kpmg/xx/en/home/insights/2020/04/australia-government-and-institution-measures-in-response-to-covid.html
RBA, Statement on Monetary Policy, May 2020, https://www.rba.gov.au/publications/smp/2020/may/economic-outlook.html
Assessment Tasks:
Answer all questions below:
- According to the data provided in the case study, explain the impact of COVID-19 on the Australian economy. Use ADAS model to assist your explanation. (10 Marks)
- Use the ADAS model to describe the monetary responses of the RBA to the pandemic. Is this an expansionary or contractionary monetary policy? What is the main objective of this monetary policy? What are the possible risks you see in this monetary policy? (10 Marks)
- Use the ADAS model to describe the fiscal policy responses of the Australian government. Is this fiscal response a demand side policy or a supply side policy? What are the intended effects? (10 Marks)
- Assuming the marginal propensity to consume is 0.9, calculate the multiplier effect of the fiscal policy response package of $507 billion. Do you think the realised policy effect will be as big as what you calculated? Elaborate on your answers. (10 Marks)