Transcript Document

CHAPTER 12
Imperfect Competition
2
The profit-maximizing output for the
monopoly
Price,
Cost
MC
d
AC
c
a
b
0
MR
D
Quantity
If there are no other market entrants, the entrepreneur can earn monopoly
profits that are equal to the area dcba.
Chapter Preview
• Most markets fall in between perfect competition and
monopoly.
• An oligopoly is a market with only a few firms, and their
behavior is interdependent.
• There is no one oligopoly model. In general we want to
consider:
• Short run: pricing and output decision of the firms.
• Long run: advertising, product development.
• Very long run: entry and exit.
Pricing of Homogeneous Products: An Overview
Price
Monopoly and the perfect cartel
outcome.
Cournot outcome (firms choose output).
PM
Perfect competition and the
Bertrand model (firms choose
prices).
MC = AC
PPC
D
MR
QM
QPC
Quantity
per week
Pricing of Homogeneous Products: An
Overview
• So in an oligopoly there can be a variety of outcomes:
• If the firms act as a cartel, get the monopoly solution.
• If the firms choose prices simultaneously, get the competitive
solution.
• If the firms choose output simultaneously get some outcome
between perfect competition and monopoly.
6
Cournot Theory of Duopoly & Oligopoly
• Cournot model
• Two firms
• Choose quantity simultaneously
• Price - determined on the market
• Cournot equilibrium
• Nash equilibrium
7
ThePrice,
demand
curve
facing
firm
1
Cost
A
MC
P=A-b(q1+q2)
A-bq2
MRM
MR1
A-bq2’
MR2
D1(q1,q2)
0
q12
q11
qM D2(q1,q2’)
DM(q1)
Quantity
q1 declines as firm 2 enters the market and expands its output
8
Profit Maximization in a duopoly market
• Inverse demand function – linear
P=A-b(q1+q2)
• Maximize profits
π1= [A-b(q1+q2)]·q1 - C(q1)
π2= [A-b(q1+q2)]·q2 - C(q2)
Reaction functions (best-response)
•
Profit maximization:
•
Set MR=MC
•
MR now depends on the output of the competing firm
• Setting MR1=MC1 gives a reaction function for firm 1
• Gives firm 1’s output as a function of firm 2’s output
10
Reaction functions (best-response)
Output of firm 2 (q2)
q1=f1(q2)
0
Output of firm 1 (q1)
Given firm 2’s choice of q2, firm 1’s optimal response is q1=f1(q2).
11
Reaction Functions
• Points on reaction function
• Optimal/profit-maximizing choice/output
• Of one firm
• To a possible output level – other firm
• Reaction functions
• q1= f1(q2)
• q2 = f2(q1)
12
Reaction functions (best-response)
Output of firm 2 (q2)
q2=f2(q1)
0
Output of firm 1 (q1)
Given firm 1’s choice of q1, firm 2’s optimal response is q2=f2(q1).
13
Alternative Derivation -Reaction Functions
• Isoprofit curves
• Combination of q1 and q2 that yield same profit
• Reaction function (firm 1)
• Different output levels – firm 2
• Tangency points – firm 1
14
Reaction
Function
Output of firm 2 (q )
2
Firm 1’s Reaction Function
y
q2
x
q’2
0
q1
q’1
q1m
Output of firm 1 (q1)
15
Deriving a Cournot Equilibrium
• Cournot equilibrium
• Intersection of the two Reaction functions
• Same graph