My neighbor Cindy is asking my advice about her new idea of running a contracting business for the installation of solar panels. She is interested about the cost savings that households and business can take advantage of as a competitive advantage to promote the investment. In addition, she thinks that consumers will be willing to invest in solar panel services due to the reality that these days individuals are concerned about the environment and also they wish to reduce pollution somehow. However, Cindy is concerned about risking her life savings on a venture that might not succeed or become profitable enough. In the following pages I’m going to address the effects that determinants of demand, such as income, prices of related goods, tastes, population and demographics, and expected future prices, have in the demand curve for solar panel services. At the same time, I will make the same analysis with the supply determinants, such as prices of inputs, technological change, prices of substitutes in production, number of firms in the market, and expected future prices, in order to give Cindy a better understanding about the importance of the supply and demand determinants in the process of broadcasting a future behavior of her business idea.
Finally, I will give her some recommendations to take into consideration at the moment she start running her interesting idea.
a. Individual demand determinant analysis
Individuals are going to demand more solar panel services if income increases because they would have more power consumption. According to Hubbard & O’Brien (2013), “The income that consumers have available to spend affects their willingness and ability to buy a good”. (p.73) For example, if a family income increases from $45,000 per year to $50,000 per year between 2015 to 2016, that increase is going to promote an increase in demand due to a higher income. Byun & Frey (2012) stated that BLS projects GDP growth of 3.0 percent per year from 2010 to 2020.” (p.27) With that been said, as the U.S. have an increase in the GDP so do the consumers, because more jobs are going to be available.
I understand that Cindy may ask why customers will choose to buy solar panel systems if they have more income. The only purpose of this part of the analysis is to understand why determinants of demand are so important to analyze the shifts on de demand curve of solar panels systems. I consider that solar panel services are normal goods that correspond to demand increases. It is important to understand that, a good is a normal good when demand increases following a rise in income and decreases following a fall in income. (Hubbard & O’Brien, p. 73) In summary, due to an increase in consumer’s income so the demand of solar panel services due to a shift to the right in the demand curve.
Prices of related goods
Electricity powered by non-renewable sources are the traditional ways of electricity production. In the last years the price of electricity from this sources have been increasing, primarily due to international oil prices. Today, consumers are looking forward for cheaper solutions for their electricity needs. The increasing prices in homeowners’ electricity bills is an important determinant for increasing demand in solar panels services due to the prices of substitutes. As stated by Hubbard & O’Brien (2013), “Goods and services that can be used for the same purpose are substitutes. When two goods are substitutes, the more you buy of one, the less you will buy of the other”. (p.73) It is important to notice that the higher electricity bills the more solar panel services are going to be demanded, because the demand curve is going to shift to the right. Lately, as a added value in the design of new home projects, developers are promoting homes with integral solar panel systems. This situation is also going to increase the solar panels demand. According to Hubbard & O’Brien (2013), “Goods and services that are used together are complements”. (p.74) According to the Energy Information Administration (2013), in the chart about electricity generation by fuel, for 2040 sixteen percent of the electricity is going to come from renewable sources.
According to Shahan (2014) “in the state of Florida going solar cost around to $24,692 resulting in monthly savings around to $139. Over time you could save $33,284, with a repayment period of about 16 years”. (n.d.) The economic analysis varies state to state due to solar power incentives, permitting requirements, federal tax deductions, and some other solar regulations. Government incentives for installing solar panels are changing tastes and preferences of consumer. As Energy Sage (n.d.) stated, “You can reduce the upfront cost of your solar panel system by 30% to sometimes more than 50% by using all the rebates, tax credits and incentives available to you.
By taking full advantage of these financial incentives, the annual returns on your investment will improve significantly”. (n.p.) For example, my father went solar two year ago in my home country. He reduced his electricity bill in over 85% investing around $15,000. He is happy about it, but his tastes has changed dramatically about renewable energy. Now he is committed to reduce pollution as a good social purpose. According to Hubbard & O’Brien (2013), “Taste is a catchall category that refers to the many subjective elements that can enter into a consumer’s decision to buy a product”. (p.74) This behavior in consumers’ tastes is another determinant to an increase in demand for solar panel systems, after a shift to the right of the demand curve.
Population and demographics
It is obvious that the American population have been growing as any other nation. The growing rate have been very controlled these days due to the preferences of young couples that don’t want to have a lot of children these days and also there is less immigration than in other years. According to Hubbard & O’Brien (2013), “as the population of the United States increases, so will the number of consumers, and the demand for most products will increase”. (p.74) Using the last census information, in 2030 the U.S. is going to have over 359 million habitants. (Colby & Ortman, p.2) With that been said, the demand of installation of solar panels services is going to increase because more consumers will be in the market, so the demand curve is going to shift to the right in the demand of solar panels. For example, with more people, more consumer, hence with more consumers, more people willing to go solar.
Expected future prices
New technologies have been driven photovoltaic (PV) prices these years, in like manner solar panels prices. As Shyam Mehta stated in Brown (2013), “Three or four years ago, the industry was targeting one dollar per watt costs in 2013; today we are at 50 cents per watt”. (n.p) On the other hand, for 2017 it is expected that the cost of photovoltaic solar panels be 36 cents per watt, according to new research by CleanTech market research firm GTM Research”. (Brown, 2013) As the prices of PV panels are going down, consumers would prefer to wait until that moment to demand solar panels. According to Hubbard & O’Brien (2013), “Consumers choose not only which products to buy but also when to buy them”. (p.74) For example, if customers are expecting the Iphone6’s prices to drop, they would want to wait in order to demand the phone. Likewise, customers are going to demand less installations of solar panels, so the demand curve is going to shift to the left due to expected drop in solar PV panels’ prices.
b. Price Elasticity of Demand
According to Honmann (2014), “In the United States, the average residential U.S. PV system price declined from $6.60 per Watt in 2010 to roughly $5 per Watt in 2013”. These tells us that prices have been decreasing at a rate around to eight percent per year. However, the greatest question now is in what proportion sales are increasing or decreasing due to lately decreasing princes in solar panel installation services all around the country. In order to answer that question, first I need to make a price elasticity of demand analysis. For that, I will make up some numbers to make an illustration about it. Using data from 2010 to 2013 about solar panels installation prices, $6.60/watt and $5.00/watt respectfully, suppose that at 2010’s prices, solar panel service contractors were selling 225 installations per month in the Tampa Bay Area. But as prices decrease in 2013, their installations grew up to 350 per month. With that being said, is the price elasticity of demand elastic or inelastic? Let’s calculate it.
Step 1: Using the midpoint formula, I have to calculate the average quantity and the average price, Avg. Qty = (350+225)/2 = 287.5 services
Avg. Price = (6.6+5.0)/2 = 5.8 dollars/watt
Step 2: Now, I have to calculate the percentage change in the quantity demanded and the percentage change in price,
% Change in Qty = (350-225)/287.5 x100% = 43.48%
% Change in Price = (5.0-6.6)/5.8 x100% = -27.59%
Step 3: Finally, dividing percentage change in the quantity demanded by the percentage change in price I can calculate price elasticity of demand, Price elasticity of demand rule < 1 Inelastic & > 1 Elastic
Price elasticity of demand = (43.48%)/(-27.59) = -1.58
Because the elasticity is greater than 1 in absolute value, the demand is price elastic between these two prices.
c. Demand’s graph
As you can notice below in the Global Supply and Demand Reconciliation for
2009, at a price of $4 the quantity demanded was 2,200, however at a price of $2, the quantity demanded was 5,300. This tells us that as prices decreases more units were demanded because costumers try to take advantage of lower prices.
The rule of thumb for firms with selling products with elastic demands is to decrease their prices in order to increase revenue. In other words, make more money selling more units but at a cheaper price. Please check the graph below, (Mehta,2009)
a. Individual supply determinant analysis
Prices of inputs
An input is anything used in the production of a good or service. (Hubbard & O’Brien, p.80) In regards to solar panels, the most costly input are the solar cells. For the last years, prices of solar cells have decrease tremendously making the acquisition of solar cells hence solar panels more affordable. According to Hubbard & O’Brien (2013), “The supply of a good will decline if the price of components increase”. The normal behavior of the majority of components – input – is to increase their price through the past of time but it is very favorable for Cindy’s project that solar cells are experiencing a particular reality in which prices are decreasing through the past of time. As stated by Hubbard & O’Brien (2013), “if the price of components decline the supply of that good will increase, and the supply curve will shift to the right”. (p.80) For example, if the price of car components’ drop, the supply curve of cars will shift to the right, because manufactures will be more willing to increase production.
In the case of solar panels supply, the influence of technological change is very important because the market is changing every day due to technology. For many years the production cost has been decreasing, making possible for manufacturers to produce a cheaper product maintaining quality. At this time, there is a revolutionary change in solar cells production process that is going to shift supply curve to the right. According to Hubbard & O’Brien (2013), “Technological change is a positive or negative change in the ability of a firm to produce a given level of output with a given quantity of inputs”. (p.80) In the case of solar cells, where new technology is changing for ever reducing unit prices, it is a positive technological change that is going to enhance the market supply because producers are going to be able to produce more.
On the other hand, as stated by Hubbard & O’Brien (2013), “a negative technological change will raise firms’ costs, and the good will be less profitable to produce. Therefore, negative technological change will cause the market supply curve to shift to the left”. (p.80) But for the actual reality, positive technological change is happening, in consequence the supply curve is going to shift to the right due to an increase in supply.
Prices of substitutes in production
Firms often choose which good or service they will produce. Alternative products that a firm could produce are called substitutes in production. (Hubbard & O’Brien, p.80) At this moment, no new substitutes are available that could be compared with solar cells or in consequence solar panels services. In order to find substitutes we must talk about other sources of renewable energy, such as geothermal, biomass, wind and hydroelectric. It is important to notice that the cheapest way of producing energy through a renewable source is with solar panels. For consequence, lower prices of substitutes would make the supply curve shift to the right due to the availability of a substitute at a lower price. But that is not really happening in the actual market.
Number of firms in the market
The more firms are producing, the more supply of a given product will exist. However, if fewer firms exist, less supply will be available. As Hubbard & O’Brien stated, “a change in the number of firms in the market will change supply. When new firms enter a market, the supply curve shifts to the right, and when existing firms leave, or exit, a market, the supply curve shift to the left”. (p.80) Going solar is a big thing due to the increasing mentality that producing energy from a non fossil source is a must for a sustainable world, that is why it is expected to have a lot more firms offering this kind of services in the future. In consequence, the supply curve will shift to the right due to the expectation of more firms in the market.
On the other hand, the installation of solar panels respond to a monopolistic competition market structure, where there are several firms trying to get customers using several strategies. The most common strategy in a monopolistic competition is differentiation. In order for a firm to be differentiated it needs to appeal to a marketing strategy. Marketing represents all the activities necessary for a firm to sell a product to a consumer. (Hubbard , R. & O’Brien, A., Slide 30) The term advertising is vital in order for Cindy’s business to success because that is how the service is differentiated. If the increase in revenue that results from advertising is greater than the increase in costs, the firm’s profits will rise. (Hubbard , R. & O’Brien, A., Slide 30)
Expected future prices
Companies offering solar panels services have been experiencing lower prices in a constantly manner. This is due to a great effort that researchers and authorities are doing in order to reduce prices for solar panels. If a firm expects that the price of its product will be higher in the future than it is today, it has an incentive to decrease supply now and increase it in the future. (Hubbard & O’Brien p.81) Conversely, the prices are not changing in a monthly rate but considerably they are decreasing over time. A decrease in future prices will make firms to supply more now in order to sell at a higher price than at a lower price in the future. This will increase supply now, shifting supply curve to the right. 10
b. Price Elasticity of Supply
According to Diamandis (2014), ” The cost of solar panels is dropping exponentially. The first and most important technological change is the falling cost per watt of silicon photovoltaic cells over the past few decades from $76 in 1977, to less than $0.36 in 2014″. (n.p.)
These tells us that prices have been decreasing a lot in this time frame, and will keep decreasing in the future. However, a good question now is in what proportion production is increasing or decreasing due to lately decreasing princes in solar panel installation services all around the country. In order to answer that question, first I need to make a price elasticity of supply analysis. For that, I will make up some numbers to make an illustration about it.
Suppose that using data from 2014 to 2015 about the cost of photovoltaic cells (PV) of $0.36/watt and $0.34/watt respectfully. Also suppose that in the same time period, suppliers were producing 2,850,000 and 3,175,000 units respectfully. With that being said, is the price elasticity of supply elastic or inelastic? Let’s calculate it.
Step 1: Using the midpoint formula, I have to calculate the average quantity and the average price, Avg. Qty = (2,850,000+3,175,000)/2 = 3,012,500 units
Avg. Price = (0.36+0.34)/2 = 0.35 dollars/watt
Step 2: Now, I have to calculate the percentage change in the quantity supplied and the percentage change in price,
% Change in Qty = (2,850-3,175)/3,012.5 x100% = 10.79%
% Change in Price = (0.36-0.34)/0.35 x100% = 5.71%
Step 3: Finally, dividing percentage change in the quantity supplied by the percentage change in price I can calculate price elasticity of supply, Price elasticity of supply rule < 1 Inelastic & > 1 Elastic
Price elasticity of supply = (10.79%)/(5.71) = 1.89
Because the elasticity is greater than 1 in absolute value, the supply is price elastic between these two prices.
c. Supply’s graph
As you can notice below in the Global Supply and Demand Reconciliation for 2009, at a price of $2 the quantity supplied was 1,650, however at a price of $4, the quantity supplied was 11,150. This tells us that as prices increases more units were supplied because manufacturers are more willing to produce and sale products. In the long run some venders will be out of the market, because several suppliers trying to sell goods in the same market structure – monopolistic competition -, in consequence the marginal revenue tends to decrease due to an excess in supply.
Trying to make an overall analysis about the feasibility of Cindy’s business idea, I would say that the majority of indicators previously analyzed, gave us a positive evaluation in regards to the future of solar panel installation services. As Cindy’s pointed out at the beginning of this analysis, she will take the risk of investing in this business but I will say that this is the beginning of a huge business. However, some recommendations need to be consider.
Any business has a niche market, where just some amount of the population tend to be willing to demand a product. In my opinion defining that niche in your are is very important for the future of your business. Not everybody in the population will buy your product, but is very probable that individuals inside your previously designed niche, will love to buy your services. Individuals inside that niche may feel good contributing with the global warming with the solar panels services, or may not fell uncomfortable with the price of the service, etc.
Remember that solar panel services demand respond as demand of normal goods, increasing
following a rise in income and decreasing following a fall in income. So, be prepare to experience an increase in demand after an increase in income in your business.
Take advantage of federal tax deductions and solar panel incentives to promote your
business. Customers won’t buy services they don’t know. However if they understand the benefits of investing in your solar panels, they will be more willing to demand your products. Use the local community magazines, newspaper, church, and any other channel that you consider important for your final goal.
Future prices are expected to decrease. In consequence consumers are more willing to wait until prices drop to the bottom, but nobody knows when that time is going to happen. The solar panel system always is going to be an investment, never will be for free. So, push your customers to make the decision now and not tomorrow, because the more time they take to make that decision, is just more solar power they are losing in their own roof.
Cindy, make sure you understand the price elasticity of demand for solar panel services. You won’t be able to get more revenue increasing prices because the demand of your service is elastic to changes in price. Consider offering good deals and a good customer service as well. If your customer understand your service and products are good enough, you will be doing good business.
Always talk to your customers about their electricity bill, make them think that they could have the electricity provider as a partner, because in case of going solar, they will be selling their production to the grid. However, in areas where there is not a electricity grid provider, long duration batteries will be a good solution to save power for hours with less solar radiation.
Be the first installing solar panels in your office, show your customer how technology has change the way we used to produce energy. Several mobile apps are available for people to check how is the production of the solar panel plant in real time. That will make your customer fill the importance of your products.
Be aware about your competition. Your need to know where is going the new tendencies in the market. Also, make a good effort in order to differentiate your products and services. No one is going to take that away from your customers.
The last one and most important recommendation, don’t be afraid because you will be alright if you take in consideration this paper. Good luck.
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Hubbard , R. G., & O’Brien, A. P. (2013). Economics, 4th Edition. Custom Edition for DeVry University. Pearson Education, Inc. Upper Saddle River, NJ.
Hubbard , R. G., & O’Brien, A. P. (2013). HO4e_Ch13_1Click. Retrieved on 3/21/2015 from PowerPoint Slides-Hubbard Text. Doc Sharing. Ecollege.com