1. Models of Competition Part IIIa: Cournot Oligopoly
Agenda:
A continuum of competition: two key questions
Models of Imperfect Competition – Overview
Cournot – Choose quantity
A. Marginal revenue function
B. Response function
C. Equilibrium condition
D. Competing garden gnomes

2. Monopolistic Competition
A Continuum of Competition….
Perfect Competition
Monopolistic Competition
Oligopoly
Monopoly
Causes of monopoly:
Economies of scale (production technology – go back to gnomes), regulation (we don’t want everyone tearing up the roads to lay gas pipe, we want to know who to go to when something blows up)
Network externalities, Location (also a form of product differentiation)
Patents
Of the four assumptions underlying perfect competition, really only two are important: product differentiation and barriers to entry/exit. Pricing power comes from these (assumption #2) and we never have perfect information (transactions costs)
Key questions:
Is there meaningful product differentiation?
Are there significant barriers to entry or exit?

3. Models of imperfect competition Model Assumptions Limitations
Monopolistic
Competition
Differentiated Products are imperfect substitutes
NO barriers to entry
Firms act independently, do NOT respond to other firms
Oligopoly
Products are close substitutes
HIGH barriers to entry (including economies of scale)
Cournot
Firms take other firms’
QUANTITY as given
Firms produce equal quantities
Stackelberg
2nd mover can NOT respond
to 1st mover
1st mover advantage. 1st mover produces same quantity as monopolist.
Bertrand
Firms simultaneously choose
PRICE
Price = MC same as perfect competition
Game Theory!
Firms strategically anticipate and respond to other firms’ actions
Few Nash equilibria, context specific implications

4. Antoine Augustin Cournot
Oligopoly: The Cournot Model
Few firms (test yourself: why?)
Firms choose quantity at the same time and then the market sets price
Products must be relatively close substitutes. 5 75
Antoine Augustin Cournot
( )
KEY: Each firm takes the other’s quantity as GIVEN, which reduces the demand available to them!
See P&R p. 459

5. Antoine Augustin Cournot
Oligopoly: The Cournot Model
A firm’s RESPONSE FUNCTION expresses its Quantity in terms of the other firm’s Quantity
Antoine Augustin Cournot
( )
Recall the general linear demand function:
Response functions with MC = 0
Equilibrium is when
Q1 = Q2
See P&R p. 461 for a numerical derivation which requires some calculus to get the marginal revenue.

6. Example: Garden Gnomes…AGAIN!
Another firm manages to come up with different technology that also makes Garden Gnomes absorb CO2 and combat global warming. They have a patent too, and conveniently the same cost structure as you. So now the market is a duopoly. (Round Q to nearest whole #)
Market demand: QD = P or P = 65 – Q/100
FIRM total cost: C(q) = q2/200
FRIM marginal cost: MC(q) = 2q/200 = q/100
NOTE q = Q1 or Q2 depending on which firm you’re thinking about!
1. What is the Marginal Revenue for Firm #1?
2. What is the response function for Q1 (an expression for Q1 in terms of Q2)? HINT: remember, if in doubt try MR = MC!
What happens if you don’t have symmetry? In other words, what if both firms have different marginal cost functions? No problem! You just substitute the specific response function for Q2 in terms of Q1 to get to one equation and one unknown. The math is messy, but you can do it!
3. How much does Q1 produce? HINT: remember there is symmetry in the response functions since both firms have the same cost structure.
4. What is the equilibrium price and quantity for the market?

7. TEST YOURSELF!
Compare the equilibrium price, quantity, profit, producer and consumer surplus for the perfectly competitive, monopoly and Cournot Duopoly markets!
Market demand: QD = P or P = 65 – Q/100
FIRM total cost: C(q) = q2/200
FRIM marginal cost: MC(q) = 2q/200 = q/100
Model
Price
Quantity
Perfect Competition $5
6,000
Monopoly
$43.33
2,167
Cournot Oligopoly
$32.48
3,252