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Homework answers / question archive / Two firms are producing an identical product
Two firms are producing an identical product. The market demand is linear, its inverse is given by P(Q) = a - bQ. There are no capacity constraints, both firms have constant marginal cost (MC). Both firms have MC = C. Assume 1.5c <a. Consider two scenarios: (i) MC of firm 1 drops to c/2. (ii) MC of both firms drops to c/2. In which model do we see a larger decrease in the market price in the Nash equilibrium? Bertrand (price competition) or Cournot (quantity competition)? [For Bertrand competition: Assumption 1: firms are not allowed to choose a price below their marginal cost. Assumption 2: When firm 1's marginal cost is c/2 and firm 2's marginal cost is c, all demand goes to firm 1 when both firms set the same price.] Cournot for scenario (i), same for scenario (ii) Cournot for scenario (i), Cournot for scenario (ii) Cournot for scenario (i), Bertrand for scenario (ii) Bertrand for scenario (i), Cournot for scenario (ii) Bertrand for scenario (i), Bertrand for scenario (ii)
