Question

Mays and McCovey are beer-brewing companies that operate in a duopoly (two-firm oligopoly). The daily marginal cost (MC) of producing a can of beer is constant and equals $0.80 per can. Assume that neither firm had any startup costs, so marginal cost equals average total cost (ATC) for each firm. 

Suppose that Mays and McCovey form a cartel, and the firms divide the output evenly. (Note: This is only for convenience; nothing in this model requires that the two companies must equally share the output.) 

Place the black point (plus symbol) on the following graph to indicate the profit-maximizing price and combined quantity of output if Mays and McCovey choose to work together. 

When they act as a profit-maximizing cartel, each company will produce cans and charge $ per can. Given this information, each firm earns a daily profit of , so the daily total industry profit in the beer market is $

Oligopolists often behave noncooperatively and act in their own self-interest even though this decreases total profit in the market. Again, assume the two companies form a cartel and decide to work together. Both firms initially agree to produce half the quantity that maximizes total industry profit. Now, suppose that Mays decides to break the collusion and increase its output by 50%, while McCovey continues to produce the amount set under the collusive agreement. 

Mays's deviation from the collusive agreement causes the price of a can of beer to decrease to per can. Mays's profit is now $ , while McCovey's profit is now . Therefore, you can conclude that total industry profit decreases when Mays increases its output beyond the collusive quantity.

Answer 1

Answer 2