Firm A and Firm B are the only two firms in the housing market. Both these firms

Question

Firm A and Firm B are the only two firms in the housing market. Both these firms produce the same type of houses. They face the following market demand curve: Q = 28 - 1/5 P where Q = Q_A + Q_B Marginal cost (MC) for both firms is equal to $20. When maximizing profits, both these firms take their rival's output as given (i.e., the firms behave as Cornet oligopolists). Suppose these firms collude and decide to split profits evenly. How much will each firm produce in such a case? What will be the total output produced by the two firms? What will be each firm's total profit? Suppose these firms produce competitively without taking the other firm's quantity into consideration. How much will each firm produce now? What will be the total output produced by the two firms? What will be each firm's total profit? Draw the reaction curves of both these firms and show the Cornet equilibrium. On your graph also show the collusive equilibrium and the competitive equilibrium. Compare these three equilibriums.

Explanation / Answer

Q = 28 - .0.2P.....................0.2P = 28 -Q...............P = 140 - 5Q

) when firms collide they form a cartel. Cartel's MC = 20, MR = 140 - 10Q

140 - 10Q = 20

10Q = 120

Q = 12 (each firm produces 6 units)

P = 140 - 60 = $80

Total profit = TR - Tc

TR = P*Q = 80*12 = 960

TC = 20Q = 20*12 = 240

Total profit = 960 - 240 = 710 (each firm will get $355 as profit)

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