2. The following equation represents the daily market demand for crude oil. Q =

Question

2. The following equation represents the daily market demand for crude oil.
Q = 10, 000,000 - 500,000 P
Suppose there are four oil producers in the crude oil market, A, B , C and D. The marginal cost of A is $10. The marginal cost of B is $12. The marginal cost of C is 13. The marginal cost of D is $15. Note that in all three cases MC =AVC.
(Hint: Do not be concerned about fixed costs in this problem; assume TFC = zero for all producers.)
a. If collusion is not allowed, what kind of market arrangement do you think is likely to result from competitive interactions among these four firms?
b. Now suppose collusion is allowed. Is it possible for these firms to form an effective cartel?
c. Calculate the profits of these firms in either case (a and b).

Explanation / Answer

a) Since MC = AVC each producer will try to sell atleast at the marginal price. Now this will cause A (since it has the lowest MC) to capture the entire market share. Other producers will ease to produce. A will profits by selling at just below its nearest competitor. say at $11.9999.

b) If collusion is allowed, the price at which it will be sold will be atleast the highest of all MCs. So the price will be atleast $15. A will make more profits than B and B more than C and C more than D.

c)

part a

Q = 10,000,000 - 500,000*P

So at P = 12; Q = 10,000,000-500,000*12 = 4,000,000

So profit = Q*(Selling price - cost) = 4,000,000*(12-10) = $8,000,000

part b

To calculate the profit we need to know more about the arrangement of the collusion. who gets to sell what share of the toal market share etc.

If we assume that the 4 get equal share @ $15.

Q = 10,000,000 - 500,000*15 = 250,000

Or each sells 250,000 / 4 units.

So profit for each firm will be 62,500 units.

And profits will be

a: 62,500 * (15-10) = $312,500

b: 62,500 * (15-12) = $187,500

c: 62,500 * (15-13) = $125,000

d: 62,500 * (15-15) = $0

Related Questions

Navigate

• Browse (All)
• Browse 2
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.