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

CHAP. 10] PRICE AND OUTPUT UNDER MONOPOLISTIC COMPETITION AND OLIGOPOLY 255
with its kink at the same price level, can shift and result only in a change in the oligopolist’s equilibrium
quantity but not in the equilibrium price.)
10.16 (a) What does the kinked demand curve or Sweezy model accomplish? (b) What would happen if the
new and higher SMC curve (e.g., the SMC 0 curve in Fig. 10-17) intersects the mr curve to the left of and
above its vertical or discontinuous portion? (c) Why is the oligopolist in general reluctant to lower price
even when justified by demand and cost considerations? (d) What do the Chamberlin and the kinked
demand curve models have in common?
(a) It can rationalize the price rigidity in oligopolistic markets, in the face of widespread changes in cost conditions.
It is of no use, however, in explaining how the prevailing prices were determined in the first place.
(b) This and other firms would want to increase prices. An orderly price increase might then occur through price
leadership.
(c) The oligopolistic firm fears it would star a price war. So the firm prefers to compete on the basis of quality,
product design, advertising, and service. Thus, to a great extent, the decision context in oligopoly resembles
military warfare and poker playing. This is studied in game theory.
(d ) In both these models, the oligopolists do recognize their mutual dependence (which makes these models better
than the Cournot, Bertrand, and Edgeworth models) but act without collusion.
CARTEL AND PRICE LEADERSHIP MODELS
10.17 Assume that (1) the 10 identical firms in a purely oligopolistic industry form a centralized cartel, (2) the
total market demand function facing the cartel is QD ¼ 240–10P and P is given in dollars, and (3) each
firm’s SMC is given by $1q for q . 4 units, and factor prices remain constant. Find (a) the best level of
output and price for this cartel, (b) how much each firm should produce if the cartel wants to minimize
costs of production, and (c) how much profits the cartel will make if the SAC of each firm at its best level
of output is $12. (d) Why do we study cartel models if cartels are illegal in the U.S. today?
(a)
From Fig. 10-18, we see that the best level of output for this cartel is 80 units and is given by the point where
MR ¼ P MC. The cartel will set a price of $16. This is the monopoly solution.
Fig. 10-18
(b)
(c)
If the cartel wants to minimize costs of production, it will set a quota of eight units of production for each firm
(given by the condition SMC 1 ¼ SMC 2 ¼ ...¼ SMC 10 ¼ MR ¼ $8, where the subscripts refer to the firms
in the cartel). This is the same as for the multiplant monopolist.
If SAC ¼ $12 at Q ¼ 8 for each firm, each firm will make a profit of $4 per unit and $32 in total. The cartel as
a whole will make $320 of profit. In this case, each firm will very likely share equally in the cartel’s profits.