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Sensitivity Analysis 51

$114,000. The firm takes optimal advantage of the increase in demand by sell-

ing a larger output (380 chips per week) at a higher price per lot.

Responding to

Changes in

Exchange Rates

Pricing Amazon’s

Kindle

Domestic steel producers have long competed vigorously with foreign steel

manufacturers for shares of the U.S. market. Given the intensity of price com-

petition, global steel producers constantly strive to trim production costs to

maintain profits. In recent years, the competitive playing field has been buf-

feted by large swings in foreign exchange rates. For instance, in 2005 the

exchange rate between the U.S. dollar and the Japanese yen was about 100 yen

per dollar. But by the summer of 2007, the dollar had increased in value (appre-

ciated) to 123 yen per dollar before falling back (depreciating) to about 100

yen per dollar at the beginning of 2009. Since then, the dollar has continued

to steadily depreciate, standing at 82 yen per dollar in spring 2011.

What was the effect of the dollar’s 2009–2011 depreciation on the compe-

tition for our domestic market between Japanese and U.S. steel producers?

The dollar depreciation (the fall in the value of the dollar) conferred a relative

cost advantage on U.S. steel producers to the disadvantage of Japanese producers.

To see this, suppose that based on its current costs, a Japanese steel maker sets

its 2009 price for a unit of specialty steel at 10,000 yen. At an exchange rate of

100 yen per dollar, this translates into a price charged to U.S. buyers of

10,000/100 $100 per unit, a level competitive with the prices of US steel pro-

ducers. Two years later, suppose that the Japanese supplier’s costs and targeted

price in yen are unchanged. However, with an exchange rate of 82 yen per dollar,

the equivalent dollar price of its steel is now 10,000/82 $122. For U.S. buyers,

Japanese steel is now much more expensive and less competitive. The demand

curve for imported steel from Japan has effectively shifted inward (that is, down-

ward and to the left) to Japan’s detriment. Correspondingly, the domestic demand

curve facing U.S. steel producers has shifted outward, as has the Japanese demand

curve for steel exports from the United States. (U.S. steel produced at a cost of

$100 per unit now costs only 8,200 yen when exported and sold in Japan.)

How should U.S. steel producers respond to the favorable demand shift

caused by the dollar’s depreciation? Using the example of increased demand

displayed in Figure 2.9c, we find that domestic firms should plan to increase

their outputs as well as to raise their dollar prices.

In November 2007, Amazon introduced the Kindle, the first successful reading

device for electronic books. The price was a daunting $399. In 2009, the com-

pany dropped the Kindle’s price to $259 and in mid-2010 to $189. Though

Amazon is notoriously secretive about the Kindle’s sales, revenues, and costs,

financial analysts estimated annual sales to be approximately 1 million units at

the $259 price.

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