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

CHAP. 10] PRICE AND OUTPUT UNDER MONOPOLISTIC COMPETITION AND OLIGOPOLY 253
Fig. 10-15
(b)
(c)
But now either firm, say firm A, realizes that by raising its price back to $6, A can sell 60 units and thus
increase its profits once again to $360. (When A does this, A will lose only those customers who are not
willing to pay the high price of $6; it does not lose any customers to B since B is already selling its
maximum output of 100 units.) B now realizes that by raising its price from $2 to slightly below $6, B can
capture 2/3 of A’s market, sell its maximum output of 100 units, and make almost $600 of profit. A reacts
and so the price oscillates continuously between $6 and $2.
The Cournot, the Bertrand, and the Edgeworth models are all based on the extremely naive assumption that the
duopolists act independently and that they never recognize their interdependence. In addition, the Edgeworth
model assumes that the duopolists have maximum output levels, whereas we know that output can be
increased in the long run. Thus these models are very unsatisfactory.
THE CHAMBERLIN AND THE KINKED DEMAND CURVE MODELS
10.14 Starting with the same assumptions as those in Problem 10.10, show step by step what happens if the
duopolists recognize their interdependence.
This is the Chamberlin model. In Fig. 10-16, when firm A enters the market, it will choose the monopoly solution
indicated by point A. Firm B, taking firm A’s output as given, will choose point B on d B . But now the Chamberlin
model breaks away from the Cournot model. That is, firm A, recognizing its interdependence with firm B, will
voluntarily and without collusion choose to sell 60 units at the price of $12. Firm B also recognizes its interdependence
with firm A and will continue voluntarily to sell 60 units, but at the new price of $12. Thus, the final (stable)
result of the Chamberlin model is that each firm shares equally in the monopoly profits of $1440. This compares
with the (stable) equilibrium profit of $640 for each firm and ($1280 in total) achieved without the recognition
of interdependence in the Cournot solution (see point E in Fig. 10-13). It is difficult to know how often in the
real world sophisticated but noncollusive behavior of this sort occurs.
Fig. 10-16