Suppose we have two firms in a market to which entry is restricted. The inverse demand...

Suppose we have two firms in a market to which entry is restricted. The inverse demand function facing these two firms is given by p = 130-2q, where q = q1 +q2. Both firms have the same costs of production: C = 10q.
(a) Compute the best response functions and find the Cournot equilibrium. What would be aggregate output, price and profit for each firm?
(b) Now suppose firm 1 gets to choose q1 before firm 2 chooses q2. Suppose also that firm 1 knows the best response function of firm 2. What output should firm 1 produce to maximize profit? What output would firm 2 produce? What will be the price? What profit will each firm make?
(c) If the manager of the firm 1 has an option of choosing before, simultaneously, or after firm 2, which will he choose?
(d) Now assume that owners of the firms decided to collude. Calculate symmetric collusive equilibrium. Are both firms better than in part a)?
(e) This collusion possibility is, however, discussed only and verbally agreed to it. Firm 1 however thinks that since this is only verbal agreement, it could be violated. Would any of these two firms violate the collusive agreement (assuming the other firm honours the agreement)?Why yes or why not? What is the magnitude of the inducement to violate the collusive agreement?
(f) Show all your results in two graphs: (i) q-P plane (with demand, marginal revenues, marginal cost curves) and (ii) q1-q2 plane (with reaction functions, and isoprofit curves).

Expert Solution

Its Mandatory to solve first 4 parts

Rahul Sunny answered 6 months ago

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