Question

Consider an industry in which there are two suppliers (A and B) that produce the same product and compete in quantity choice (ie they are Cournot competitors). Both suppliers face the same constant marginal cost. The demand curve for the product is linear. In this industry:

(a) If Supplier A anticipates that Supplier B produces half the monopoly output then Supplier A produces more than half the monopoly output.
(b) If Supplier A anticipates that Supplier B produces half the monopoly output then Supplier A produces less than half the monopoly output.
(c) If Supplier A anticipates that Supplier B produces half the monopoly output then Supplier A produces exactly half the monopoly output.
(d) If Supplier A anticipates that Supplier B produces half the monopoly output then whether Supplier A produces more or less than half the monopoly output depends on its marginal cost.

Answer 1

In Cournot competition with identical marginal costs and a linear demand curve, if Supplier A anticipates that Supplier B will produce half the monopoly quantity, then Supplier A will choose to produce less than half the monopoly quantity to maximize its own profits.

Step-by-step explanation:

In the context of Cournot competition, when we consider an industry with two suppliers A and B producing homogeneous products and facing the same constant marginal cost, we delve into the strategic interaction in quantity settings. If Supplier A believes that Supplier B will produce half the monopoly output, we can leverage the information given about monopolies and understand that the profit-maximizing output for a monopolist is where marginal revenue (MR) equals marginal cost (MC). However, when there are two firms, each firm must take into account the output of the other firm when determining its own output level.

Given the premises, we know that each firm would tend to produce less than the monopoly output due to the strategic substitutability of quantities in a Cournot duopoly. If Supplier A anticipates that Supplier B is producing half the monopoly output, then the best response for Supplier A would be to produce less than half the monopoly output (not more or exactly half) in order to maximize its profit based on the assumption of Cournot competition where firms choose quantities simultaneously and independently. This implies that if Supplier A anticipates that Supplier B will produce half the monopoly output, Supplier A will produce an output level that, combined with Supplier B's output, will be less than the total monopoly output.