Ch12 - Monopolistic Competition and Oligopoly

3 some experts have argued that too many brands of

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3.  Some experts have argued that too many brands of breakfast cereal are on the market.  Give an argument to support this view.  Give an argument against it. Pro:   Too many brands of any single product signals excess capacity, implying an  output level smaller than one that would minimize average cost. Con:   Consumers value the freedom to choose among a wide variety of competing  products. (Note: In 1972 the Federal Trade Commission filed suit against Kellogg, General  Mills, and General Foods.  It charged that these firms attempted to suppress entry  into the cereal market by introducing 150 heavily advertised brands between 1950  and   1970,   crowding   competitors   off   grocers’   shelves.     This   case   was   eventually  dismissed in 1982.) 4.   Why is the Cournot equilibrium stable (i.e., why don’t firms have any incentive to  change their output levels once in equilibrium)?   Even if they can’t collude, why don’t  firms set their outputs at the joint profit-maximizing levels (i.e., the levels they would  have chosen had they colluded)? A Cournot equilibrium is stable because each firm is producing the amount that  maximizes its profits,  given what its competitors are producing .  If all firms behave  this way, no firm has an incentive to change its output.  Without collusion, firms find  it difficult to agree tacitly to reduce output.  Once one firm reduces its output, other  192
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Chapter  12:  Monopolistic Competition and Oligopoly firms have an incentive to increase output and increase profits at the expense of the  firm that is limiting its sales. 5.  In the Stackelberg model, the firm that sets output first has an advantage.  Explain  why. The Stackelberg leader gains the advantage because the second firm must accept the  leader’s large output as given and produce a smaller output for itself.  If the second  firm decided to produce a larger quantity, this would reduce price and profit.  The  first firm knows that the second firm will have no choice but to produce a smaller  output in order to maximize profit, and thus, the first firm is able to capture a larger  share of industry profits. 6.  What do the Cournot and Bertrand models have in common?  What is different about  the two models?   Both are oligopoly models in which firms produce  a homogeneous good.   In the  Cournot model, each firm assumes its rivals will not change the quantity produced.  In the Bertrand model, each firm assumes its rivals will not change the price they  charge.  In both models, each firm takes some aspect of its rivals behavior (either  quantity or price) as fixed when making its own decision.  The difference between 
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