Two firms compete in a market by selling differentiated products. The demand equations are : q1...

Two firms compete in a market by selling differentiated products. The demand equations are :

q1 = 75 – p1 +p2/2

q2 = 75 – p2 +p1/2

Assume that each firm has a marginal cost and average costs of 0

What market model do we use if each firm competes by simultaneously choosing price
Are the two goods substitutes?
. Solve for firm 1’s best response function.
Solve for the equilibrium price and quantity.
Would firm 1 still be able to compete in the market if their marginal costs increased while firm 2’s remained at 0?

Expert Solution

Q) we can use Bertrand model of price competition where two firms producing homogenous product compete on prices instead of output quantity.

No, the two goods are complementary goods.

Firm 1 can not compete in the market in the case its marginal cost increases while MC of firm 2 remains at zero. To cover the marginal cost, firm 1 must raise its prices so consumer would prefer to purchase from firm 2 at relatively lower price than from firm 1 who is selling at relatively higher price.

Rahul Sunny answered 2 years ago

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