ECO – Cournot, Market Power and Market Concentration

| November 24, 2016

1. Cournot, Market Power and Market Concentration. Consider a market in which there are two firms who face the inverted industry demand given by P = 260 – Q. Each firm has zero fixed cost and constant marginal cost given by c1 for Firm 1 and c2 for firm 2.

a) (10 marks). Let c1 = c2 = 170. Solve for the Cournot equilibrium outputs. Use you solution to calculate the (i) Herfindahl index (H) (ii) Lerner Index (L) and (iii) industry elasticity (?) and (iv) Welfare (W). Verify that L = H/?.

b) (10 marks). Let c1 = 150 and c2 = 190. Repeat part a). Show that the increase in the variance of marginal cost has caused H, L and W to rise.

2. Cournot and entry. Consider an industry consisting of n firms that produce identical products. There are N buyers in the market and each buyer has a demand curve given by qd = 20 – P where qd is the amount demanded by each buyer and P is the common industry price. The number of buyers N is a measure of market size. Market demand is equal to the amount demanded by all buyers and is thus given by Q = N(20 – P). The inverted market demand curve is thus given by

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