Question

Q1: The decline in total revenue from cigarette sales in 1993 is attributed to Philip Morris’s cut in the price of cigarettes. Are there other factors that might have contributed to this decline in revenue?

Q2: What are the different “goods” that are produced by an advertising agency, and how might they yield economies of scope in practice?

Answer 1

Q1) Since cigarette is an addictive good, its price elasticity of demand is < 1 i.e it has an inelastic demand. Thus, the decrease in prices will definitely lead to a fall in revenue as the % in quantity demanded of cigarettes is less than the % decrease in price. But this was not the only factor. The demand of cigarettes was decreasing due to many other factors during the 90s. The primary among them were the restrictions on advertising of cigarettes imposed in several countries around the time. Another reason was the correlation established between smoking cigarettes and the risk of lung cancer that reduced the demand for cigarettes and thus led to a decline in revenue for Philip Morris