Question

Industry demand is given by :

  P = 100-2Q

The total cost for the individual firm of which there are 4, is given by:

TCi = 10qi + qi^2

If the 4 firms form a cartel what will be the price and output if

1. the cartel is centralized and

2. the cartel is decentralized

As we know cheating is a problem with cartels what would happen to price and output if the cartel breaks down?

Answer 1

If the firms operate independently , it is simply a case of oligopoly ( as there as very few firms )

To solve this we will treat this as a simple monopoly maximisation problem

Given and

The total cost will be simply be the addition of individual forms costs.

Then , like in a monopoly , the equilibrium profit maximising condition will be where MR=MC

Hence,

where,

as there are 4 firms.

=each firm will produce 15 units and will be sold at a Price of 60

In case of decentralised cartel, the firms will again behave similar like that to a monopoly.

In case of cheating

When cheating takes place , the cheating firms will reduce prices in order to attract more consumers.

Reducing price will lead to greater output for the firm and reduced output for other firms.

It will eventually lead to cartel break down and hence the firms will return to being an oligopoly , in which each firms actions will affect other firms as well.