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ECMC41-Lec7

# ECMC41-Lec7 - ECMC41 Lecture 7 Strategic behaviour Vertical...

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ECMC41 – Lecture 7

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2 Strategic behaviour & Vertical relationships 1. Non-pricing strategies Investment in R&D Raising rival s costs 2. Vertical integration 3. Vertical restrictions
3 1. Non-cooperative strategic behavior Pricing strategies Predatory pricing Limit pricing Non-pricing strategies Investment in R&D (model) Raising rival s costs

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4 Cost functions 6 \$ , 1 \$ 1 1 = = A A MC F 6 \$ , 1 \$ 2 2 = = A A MC F 6 \$ , 1 \$ 2 2 = = A A MC F 6 \$ , 1 \$ 2 2 = = B B MC F 4 \$ , 1 \$ 2 2 = = A A MC F 4 \$ , 1 \$ 2 2 = = A A MC F 6 \$ , 1 \$ 2 2 = = B B MC F Case I: A does not invest. Case Ia: If B does not enter: A is the monopolist Case Ib: If B enters: A and B are Cournot competitors Case II: A invests. Case IIa: If B does not enter: A is the monopolist Case IIb: If B enters: A and B are Cournot competitors 6 \$ , 01 . 8 \$ 1 1 = = A A MC F Investment in R&D
5 Case I: Firm A does not invest Period 1: Firm A: F=\$1, MC=\$6 Period 2: Case Ia: B does not enter, A remains a monopolist. - A s total profit (for both periods combined) = \$16 - B s profit =\$0 Case Ib: B enters, Cournot rivals - A s total profit=\$8+\$3 =\$11 - B s profit =\$3 ( 29 ( 29 8 \$ , 9 \$ 6 1 12 1 * 1 1 1 1 1 = = = + - - = A A A A A p FOC q q q Max π π ( 29 ( 29 3 \$ , 8 \$ 6 1 12 2 2 * 2 2 2 2 2 2 = = = + - - - = B A A A B A A p q q q q Max π π π

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6 Case II: A invests in R&D (with additional fixed cost \$7.01) Period 1: Firm A: F = \$1+\$7.01, MC=\$6 A s profit =\$8 - \$7.01= \$0.99 Period 2: Case IIa: B stays out, A remains a monopolist with MC=\$4. - A s total profit (for both periods combined) = \$0.99+\$15 = \$15.99 - B s profit =\$0 Case IIb: B enters, Cournot rivals - A s total profit=\$0.99+\$10.11=\$11.1 - B s profit =\$0.77 ( 29 ( 29 77 . 0 \$ , 11 . 10 \$ , 33 . 7 \$ 4 1 12 2 2 * 2 2 2 2 2 2 = = = + - - - = B A A A B A A p q q q q Max π π π
7 Incumbent A Not Invest Invest in R&D Entrant B Not Enter Enter (Case Ia) \$16 , \$0 (Case IIa) \$15.99 , \$0 (Case Ib) \$11 , \$3 (Case IIb) \$11.10 , \$0.77 Pay-off Matrix (total profit both periods combined)

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