Dominick Salvatore Schaums Outline of Microeconomics, 4th edition Schaums Outline Series 2006

CHAP. 10] PRICE AND OUTPUT UNDER MONOPOLISTIC COMPETITION AND OLIGOPOLY 241
assumptions are made: (1) each firm faces an identical straight-line demand curve for its product, (2) each firm
has limited production capacity and cannot supply the entire market by itself, and (3) each firm, in attempting to
maximize its TR or total profit, assumes that the other firm holds its price constant. The result of these assumptions
is that there will be a continuous oscillation of the product price between the monopoly price and the
maximum output price of each firm (see Problems 10.2 and 10.4). Price oscillations are sometimes observed
in oligopolistic markets.
10.7 THE CHAMBERLIN MODEL
Both the Cournot and Edgeworth models are based on the extremely naive assumption that the two oligopolists
(duopolists) never recognize their interdependence. We nevertheless study these models because they give
us some indication of the nature of oligopolistic interdependence and also because they are the forerunners of
more realistic models. One such more realistic model is the Chamberlin model. Chamberlin starts with the same
basic assumptions as Cournot. However, Chamberlin further assumes that the duopolists do recognize their
interdependence. The result is that without any form of agreement or collusion, the duopolists set identical
prices, sell identical quantities, and maximize their joint profits.
EXAMPLE 4. In Fig. 10-4, D is the total market demand curve for the combined output of duopolists A and B. If firm A is
the first one to enter the market, it will choose to be at point A on D (¼ d A ), thus making the monopoly profit of $3600. Firm
B, taking A’s output as given, faces demand curve d B and thus decides to sell 300 units at point B. (So far the Chamberlin
model is exactly the same as the Cournot model.) However, duopolists A and B now realize that the best thing they can do is
to share equally the monopoly profits of $3600. Thus each duopolist sells 300 units or half of the monopoly output at the
monopoly price of $6 and makes a profit of $1800. To be noted is that this solution is stable, is reached without collusion,
and results in $200 more profits for each firm than under the Cournot solution.
Fig. 10-4
10.8 THE KINKED DEMAND CURVE MODEL
As a further development toward more realistic models, we have the kinked demand curve or Sweezy
model. This tries to explain the price rigidity often observed in oligopolistic markets. Sweezy postulates that
if an oligopolistic firm increases its price, others in the industry will not raise theirs and so the firm would
lose most of its customers. On the other hand, an oligopolistic firm cannot increase its share of the market
by lowering its price since the other oligopolists in the industry will match the price cut. Thus there is a
strong compulsion for the oligopolist not to change the prevailing price but rather to compete for a greater
share of the market on the basis of quality, product design, advertisement, and service.