• Join over 1.2 million students every month
  • Accelerate your learning by 29%
  • Unlimited access from just £6.99 per month

Explain Cournot, Bertrand and Stackelberg models of oligopoly assuming that the firms have identical costs. Describe circumstances where each model is appropriate.

Extracts from this document...

Introduction

Explain Cournot, Bertrand and Stackelberg models of oligopoly assuming that the firms have identical costs. Describe circumstances where each model is appropriate. The theory of the firm is a set of economic theories that describe the nature, existence and behaviour of a firm and its relationship with the market. Some of the questions it aims to answer are why firms enter or exit the market, why there are boundaries between the firm and the market, and why firms are structured in a specific way. An oligopoly is a common market form in which a market or industry is dominated by a small number of sellers. There are several different ways for firms to behave in an oligopolistic environment, and whereas the Stackelberg and Cournot models compete on quantity produced, the Bertrand model is based on price competition between firms. Stackelberg The Stackelberg model is a leadership game in which the leading firm makes the first move and the follower firms adjust their own product decisions accordingly. The total industry output is based on the output of the leader, y1 and that of the follower, y2. The profit maximising output of the leader depends on how the follower will react and assuming that the follower will also want to profit maximise, his problem will be: . ...read more.

Middle

This leads to the profit maximisation problem () and functional relationship (firm one's reaction curve: and firm two's reaction curve: ) similar to the Stackelberg model. The Cournot equilibrium combination of output choices satisfy and as is the optimal output level for firm one, assuming that firm two is producing , and the optimal output level for firm two is , assuming that firm one keeps consistent and produces at . The Nash solution will always emerge in this situation because if the two firms decided to produce at a level of outputas illustrated, firm one will cut its production to settle on its own reaction function and the new outputs will be. In response to this, firm two will increase its production such that the new pair of outputs will be. A similar process will repeat itself until the stable equilibrium level of is reached. Additionally, if there were several firms involved in Cournot equilibrium, an n-firm concentration ratio, each firm would have to take into account the expected output choices of all the incumbent firms and the total output of n firms would therefore be. The profit maximising condition where marginal revenue equals marginal cost would lead to: where si is firm i's share of the total output market. ...read more.

Conclusion

Examples and Implications A typical example of the Bertrand model is that of shops and bars that publish non-negotiable prices. This is not very popular as firms would still prefer to make a significant profit rather than undercutting the other incumbents on price. A popular example of the Stackelberg model is Google who is a significant large player in the internet market. It started off providing a search engine but now has diversified into maps and emails which Microsoft have tried to imitate. Lastly, Cournot competition is widely seen in many oligopoly markets and a prime example is the aircraft industry where there are initially high set up costs and only two providers, Airbus and Boeing. A comparison of the three models shows that the Stackelberg price is greater than the Bertrand price but lower than the Cournot. Stackelberg aggregate output and consumer surplus is greater than Cournot, but it is lower than Bertrand aggregate output and consumer surplus. Stackelberg aggregate output is also greater than a pure monopoly or cartel but less than a perfectly competitive output. Finally, Stackelberg price is lower than a pure monopoly or cartel but greater than the perfectly competitive price. ?? ?? ?? ?? Page 1 ...read more.

The above preview is unformatted text

This student written piece of work is one of many that can be found in our University Degree Microeconomics section.

Found what you're looking for?

  • Start learning 29% faster today
  • 150,000+ documents available
  • Just £6.99 a month

Not the one? Search for your essay title...
  • Join over 1.2 million students every month
  • Accelerate your learning by 29%
  • Unlimited access from just £6.99 per month

See related essaysSee related essays

Related University Degree Microeconomics essays

  1. Is profit maximisation the key objective of a firm?

    Both factors coincide with information deficiencies for both the shareholders and the managers. Another proposition by Hornby et al. signifies that one way of prevailing such disputes between the principals and the agents would be, "to try and devise contracts which bring about a coincidence of aims" (Pg 164, 2001).

  2. What is the nature of uncertainty in a model of oligopoly, and how does ...

    This makes an oligopolist's profit maximizing decision more difficult than that of a monopoly or competitive firm. The small number of firms means that each can influence the price, therefore affecting rival firms. For example, when Sony slashed the European price of its Playstation 2 console in 2002, the price of its rival, the Xbox (produced by Microsoft)

  1. Microsoft Monopoly

    Microsoft was offering software for free, which is not illegal. Another such action was charging higher prices for its Windows operating system to computer manufacturers that featured Netscape's Navigator rather than Microsoft's Internet Explorer (McConnell). Though fierce competition does promote technological innovation, Microsoft does use its monopoly power to establish its dominance in the browser world.

  2. Briefly outline some of the main models of oligopoly in which firms compete according ...

    Following these initial sections, I will then go on to look at collusion. Assumptions: In order to provide numerical examples, I have created a fictional demand function which is: Q= 113 - P (Where P is Price) Therefore P = 113 - Q And as Q = Qa + Qb

  1. "Assuming there are two factors of production, explain clearly with the aid of diagrams, ...

    This shows all the possible combinations of labour and capital attainable to produce given levels of output. However, when trying to evaluate what the optimal combination of inputs are for the firm, it is more useful to take a single, given level of output and analyse all the input combinations which yield that level of output.

  2. Game Theory Nash Equilibrium

    Dominant Strategy This occurs when one player?s best response to any strategy the other player may pick results in the highest playoff for the players. The players best strategy is not dependant on another player this makes it a dominant strategy.

  1. Carefully describe, also through a numerical example, how cooperation can be achieved as an ...

    air while individual B is prepared to pay price Q1B1 for the same OQ1 quantity which he consumes at the same time as individual A.

  2. Managerial Economics - the decision of firms to make or buy products.

    Historical perspective Evolution off the firm Economics is a subject that started early 18 century by the classical economics Adam Smith "The Wealth of Nations", the focus was only on the firm as a black box, later Ronald Coase in "The Nature of the Firm" develop the theory that firms

  • Over 160,000 pieces
    of student written work
  • Annotated by
    experienced teachers
  • Ideas and feedback to
    improve your own work