p&rchapter 12[1]final

8/7/2019 p&Rchapter 12[1]Final

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Chapter 12Monopolistic

Competition andOligopoly

Monopolistic

Competition andOligopoly


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Chapter 12 Slide 2

Monopolistic Competition

Characteristics

1) Many firms

2) Free entry and exit

3) Differentiated product


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Chapter 12 Slide 3

Monopolistic Competition

The amount of monopoly powerdepends on the degree ofdifferentiation.

Examples of this very common marketstructure include:

Toothpaste Soap

Cold remedies


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A Monopolistically CompetitiveFirm in the Short and Long Run

Quantity

$/Q

Quantity

$/QMC

AC

MC

AC

DSR

MRSR

DLR

MRLR

QSR

PSR

QLR

PLR

Short Run Long Run


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DeadweightlossMC AC

Comparison of Monopolistically CompetitiveEquilibrium and Perfectly Competitive Equilibrium

$/Q

Quantity

$/Q

D = MR

QC

PC

MC AC

DLR

MRLR

QMC

P

Quantity

Perfect Competition Monopolistic Competition


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Chapter 12 Slide 6

Oligopoly

Characteristics

Small number of firms

Product differentiation may or may not

exist

Barriers to entry


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Chapter 12 Slide 7

Oligopoly

The barriers to entry are:

Natural

Scale economies

Patents

Technology

Name recognition


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Chapter 12 Slide 8

Oligopoly

The barriers to entry are:

Strategic action

Flooding the market

Controlling an essential input


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Chapter 12 Slide 9

Oligopoly

Management Challenges

Strategic actions

Rival behavior

Question

What are the possible rival responses to a10% price cut by Ford?


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Chapter 12 Slide 10

Oligopoly

Equilibrium in an Oligopolistic Market

In perfect competition, monopoly, and

monopolistic competition the producers didnot have to consider a rivals response

when choosing output and price.

In oligopoly the producers must consider

the response of competitors when

choosing output and price.


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Chapter 12 Slide 11

Oligopoly

Equilibrium in an Oligopolistic Market

Defining Equilibrium

Firms do the best they can and have noincentive to change their output or price

All firms assume competitors are taking

rival decisions into account.


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Chapter 12 Slide 12

Oligopoly

Nash Equilibrium

Each firm is doing the best it can given

what its competitors are doing.


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Chapter 12 Slide 13

Oligopoly

The Cournot Model

Duopoly

Two firms competing with each otherHomogenous good

The output of the other firm is assumedto be fixed

Firms decide simultaneously how muchto produce


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Chapter 12 Slide 14

MC1

50

MR1(75)

D1(75)

12.5

If Firm 1 thinks Firm 2 will produce75 units, its demand curve is

shifted to the left by this amount.

Firm 1s Output Decision

Q1

P1D1(0)

MR1(0)

If Firm 1 thinks Firm 2 willproduce nothing, its demand

curve, D1(0), is the marketdemand curve.

D1(50)MR1(50)

25

If Firm 1 thinks Firm 2 will produce50 units, its demand curve is

shifted to the left by this amount.


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Chapter 12 Slide 15

Firm 2s ReactionCurve Q2*(Q1)

Firm 2s reaction curve shows how much itwill produce as a function of how much

it thinks Firm 1 will produce.

Reaction Curvesand Cournot Equilibrium

Q2

Q1

25 50 75 100

25

50

75

100

Firm 1s ReactionCurve Q*1(Q2)

x

x

x

x

Firm 1s reaction curve shows how much itwill produce as a function of how much

it thinks Firm 2 will produce. The xscorrespond to the previous example.

In Cournot equilibrium, eachfirm correctly assumes how

much its competitors will

produce and therebymaximizes its own profits.

CournotEquilibrium


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Chapter 12 Slide 16

Oligopoly

Questions

1) If the firms are not producing at the

Cournot equilibrium, will they adjust

until the Cournot equilibrium is

reached?

2) When is it rational to assume that a

competitors output is fixed?


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Chapter 12 Slide 17

Oligopoly

An Example of the Cournot Equilibrium

Duopoly

Market demand is P = 30 - Q where

Q = Q1 + Q2

MC1 = MC2 = 0

The Linear Demand Curve


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Chapter 12 Slide 18

Oligopoly


Firm 1s Reaction Curve

111 )30(Revenue,Total QQPQR !!

12

2

11

1211

30

)(30

QQQQ

QQQQ

!

!



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Chapter 12 Slide 19

Oligopoly


12

21

11

21111

2115

2115

0230

QQ

QQ

MCMRQQQRMR

!

!

!!

!((!

CurveReactions2'Firm

CurveReactions1'Firm



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Chapter 12 Slide 20

Oligopoly


103020

10)2115(2115

21

2111

1

!!

!!

!!!!

!

QPQQQ

QQQQ

QQ 2:mEquilibriuCournot



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Chapter 12 Slide 21

Duopoly Example

Q1

Q2

Firm 2sReaction Curve

30

15


15

30

10

10

Cournot Equilibrium

The demand curve is P = 30 - Qandboth firms have 0 marginal cost.


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Chapter 12 Slide 22

Oligopoly

MCMRMR

QQRMR

QQQQPQR

!!!

!((!

!!!

and15Qwhen0

230

30)30( 2

Profit Maximization with Collusion


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Chapter 12 Slide 23

Oligopoly

Contract Curve

Q1 + Q2 = 15Shows all pairs of output Q1 and Q2 that

maximizes total profits

Q1 = Q2 = 7.5Less output and higher profits than the

Cournot equilibrium

Profit Maximization with Collusion


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Chapter 12 Slide 24



Duopoly Example

Q1

Q2

30

30

10

10

Cournot Equilibrium15

15

Competitive Equilibrium (P = MC; Profit = 0)

CollusionCurve

7.5

7.5

Collusive Equilibrium

For the firm, collusion is the bestoutcome followed by the Cournot

Equilibrium and then the

competitive equilibrium


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Chapter 12 Slide 25

First MoverAdvantage--The Stackelberg Model

Assumptions

One firm can set output first

MC = 0

Market demand is P = 30 - Q where Q =

total output

Firm 1 sets output first and Firm 2 thenmakes an output decision


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Chapter 12 Slide 26

Firm 1

Must consider the reaction of Firm 2

Firm 2

Takes Firm 1s output as fixed and

therefore determines output with the

Cournot reaction curve: Q2= 15 - 1/2Q1



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Chapter 12 Slide 27

Firm 1

Choose Q1 so that:

12

2

1111 30

0

Q- Q- QQPQR

MC,MCMR

!!

!!! 0t r f r



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Chapter 12 Slide 28

Substituting Firm 2s Reaction Curve

forQ2:

5.7and15:015

21

1111

!!!

!((!

QQMRQQRMR

2

11

11

2

111

2115

)2115(30

QQ

QQQQR

!

!



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Chapter 12 Slide 29

Conclusion

Firm 1s output is twice as large as firm 2s

Firm 1s profit is twice as large as firm 2s

Questions

Why is it more profitable to be the first mover?

Which model (Cournot or Stackelberg) is moreappropriate?


p&rchapter 12[1]final

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