LEC8_PG_EXT_2019.pdf - Announcements \u2022 Problem set 2 posted today Due Feb 26 \u2022 Lecture notes on the models we have been discussing posted in the

# LEC8_PG_EXT_2019.pdf - Announcements • Problem set 2...

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Announcements Problem set 2 posted today. Due Feb 26. Lecture notes on the models we have been discussing posted in the lecture slides folder. Lecture notes for today also posted.
Bertrand competition in differentiated product markets In homogeneous goods markets, Bertrand price competition leads to perfectly competitive outcome, even with two firms ! Bertrand price competition with differentiated products leads to a different outcome. (why?) In the simplest model, we take non-price attributes as given and look for a Nash equilibrium associated with a given demand and cost structure.
Demand for differentiated products?
Firm’s profit maximization problem? 2 firms, producing imperfect substitutes. Firms’ demand curves are: q 1 = a − b 1 p 1 + b 2 p 2 q 2 = a − b 1 p 2 + b 2 p 1 Assume: b 1 > b 2 (so demand more responsive to own-price) Firms’ costs are C(q) = cq Firm 1 maximizes
Solve for the “best response function”
Nash equilibrium (graph)
Applied example: Automobile industry
Use this framework to model how vehicle manufacturers strategically set prices….
Once you’ve estimated this model?
Corporate Average Fuel-Economy (CAFE) standards A large literature models firm response to an important policy
Corporate Average Fuel-Economy (CAFE) standards Average Fuel Economy
Why bother with regulating fuel economy?
We aren’t the only country with fuel economy standards
Target is in terms of sales-weighted harmonic mean of miles per gallon (MPG): q " + q \$ + q % + q & q " mpg " + q \$ mpg \$ + q % mpg % + q & mpg & Inefficient cars get more weight because we care about emission per mile This is the same as as the inverse of the sales- weighted arithmetic mean of fuel consumption rates (gallons per mile) Fuel economy standards tend to be sales-weighted
Obama CAFE standard reform
Changes: Increase in stringency Banking (5 years) and borrowing (3 years) Trading across models and companies Features: Separate car vs truck Footprint-based Credits for new tech (low HFC AC, reduced refrigerant leakage) Super-credits for EVs, hybrids, fuel cell vehicles Obama CAFE reform
Each size vehicle has a new standard In 2016: car (40 ft 2 ) 41 MPG light truck (65 ft 2 ) 24 MPG Composition of sales determines actual MPG Footprint is wheelbase multiplied by average track width Different footprint curves for cars vs light trucks Why design a policy like this? Efficiency implications? Footprint based standard??
Homework assignment Review a reader-friendly review of the CAFÉ literature (Kleir and Linn, 2011). Work with a stylized Bertrand model to derive first order conditions for profit maximization (holding non-price attributes constant) How do the authors modify the standard Bertrand model to incorporate the CAFÉ constraint?

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• Spring '16
• Meredith Fowlie
• Economics, Externality, Benny, Coase

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