1) The diagrams below illustrate an industry under oligopoly consisting and an i
ID: 1115952 • Letter: 1
Question
1) The diagrams below illustrate an industry under oligopoly consisting and an individual oligopolist.
(a) The oligopolits form a cartel. What (price, output) combination will the cartel choose to maximise profits acting as a collective monopolist?
(b) How much would the individual firm be tempted to produce as a free-rider, if the output quota agreed by the cartel is 30 units of output?
(c) If the cartel broke down at which price and output would our individual oligopolist maximise profits?
(d) Is the individual oligopolist better-off as (a) member of the cartel, (b) free rider (assuming the cartel is maintained) or (c) under oligopoly without a cartel?
(e) Explain whether this oligopolist constitutes a weak link for the cartel or not?
*** For sub-questions d & e use total revenues to illustrate your answer.
180 170 160 150 140 130 120 110 100 90 80 70 60 50 40 30 20 10 180 MC-MR-P(D) 160 150 140 130 120 110 100 90 80 70 60 50 40 30 20 10 90 100 110 120 130 140 150 10 20 30 40 50 60 70 Industry (The Cartel) Firm (Individual Qligopolist)Explanation / Answer
a. Oligopolists are those firms who dominate the market, and they are very few in number. When these oligopolists form collective monopolist they act like pure monopolist and try to maximize their profit. Hence like pure monopolist, the cartel will charge price and produce output corresponding to where marginal revenue equals marginal cost (MR=MC). From figure 1 (the cartel) the cartel price will be 110 and output produced will be 120.
*Remember that price in imperfect market is always with respect to demand function corresponding to where marginal revenue equals marginal cost.
b. At 30 units of output the individual firm marginal revenue curve falls below the marginal cost curve (the individual oligopolist figure), thus indicating potential increase in revenue and profit if one increases the output. As mentioned above a firm will maximize profit corresponding to where marginal revenue equals marginal cost. Therefore the individual oligopolist would be tempted to produce 50 units of output to maximize profit.
c. If cartel broke down, the individual oligopolist would still enjoy power over price but at a relatively lower degree. So from figure 2 (oligopolist) corresponding to profit maximizing condition (MR=MC), the individual oligopolist would produce 40 units.
d. The situation of individual oligopolist under different market setting would depend on profit. However by thumbs rule monopoly has highest degree of power over price setting, it is assumed that individual oligopolist would be better off under cartel. However one need to check the profit level to determine in which condition the firm will be better off.
In (a) Profit=Revenue-Cost=110*120-50*120=7200
In (b) Profit=Revenue-Cost=(110*30+90*10)-30*40=3000 (first from cartel and rest from potential profit)
In (c) Profit=Revenue-Cost=90*40-30*40=2400
e. For this oligopolist even if it cheats the profit does not exceed the profit from the cartel. Hence the oligopolist does not constitute a weak link.
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