Question

Assume a linear market demand curve and a concave average cost curve for the following questions:

**ONLY ANSWER PART C**

(a) Show how an incumbent can keep an entrant out of the market by threatening to produce a large quantity.

(b) Why might this behavior be irrational if an incumbent actually faces an entrant?

(c) Explain how the purchase of additional capacity (even if it is never used) can make the previous behavior rational. What is meant by additional capacity in practice?

Answer 1

If consumers are willing to purchase additional capacity then the producer to meet consume or demand would survive in the market by expanding product it would benefit form economies of scale and also avoid risk of stack pile up as consumers are willing to purchase additional capacity additional capacity means a firm is producing less than what it can produce without any additional fixed cost