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The Cournot Model

As 90
Output

Bs
Reaction
Function
As
Reaction
Function

45

45

90

Bs
Output

Lectures in Microeconomics-Charles W. Upton

Assumptions
Two firms A, and B
produce widgets

The Cournot Model

Assumptions
Two firms A, and B
produce widgets
The industry demand
function is D

The Cournot Model

Assumptions
Two firms A, and B
produce widgets
The industry demand
function is D
Firm A produces qA;
firm B produces qB

The Cournot Model

Assumptions
Two firms A, and B
produce widgets
The industry demand
function is D
Firm A produces qA;
firm B produces qB
Firm A takes its
demand function as D
-qB

The Cournot Model

qb

Da
Q

Assumptions
Two firms A, and B
produce widgets
The industry demand
function is D
Firm A produces qA;
firm B produces qB

An important
assumption, the heart
of the Cournot model.
D
qb

Firm A takes its


demand function
as D -qB
The Cournot Model

Da
Q

Solving As problem

Da
D

The Cournot Model

Solving As problem

Da
D
MR

MC

The Cournot Model

Solving As problem

Da
D

p*

MR

MC

qa* Cournot Model


The

Symmetry
Just as Firm A is choosing qA to maximize
profits, so too is Firm B choosing qB to
maximize profits.

The Cournot Model

Symmetry
Just as Firm A is choosing qA to maximize
profits, so too is Firm B choosing qB to
maximize profits.
If B changes its output, A will react by
changing its output.

The Cournot Model

A Reaction Function
We do the mathematical approach first and
then the graphical approach.

The Cournot Model

A Reaction Function
The industry demand function

Q = 100 2p.

The Cournot Model

A Reaction Function
The industry demand function
Q = 100 2p.
The inverse demand function is

P = 50 (1/2)Q

The Cournot Model

A Reaction Function
The industry demand function
Q = 100 2p.
The inverse demand function is
P = 50 (1/2)Q
As demand function is then

P = 50 (1/2)(qA+qB)
The Cournot Model

A Reaction Function
As demand function is then

P = 50 (1/2)(qA +qB)

The firms profits are

= PqA 5qA

The Cournot Model

A Reaction Function
As demand function is then
P = 50 (1/2)(qA +qB)
The firms profits are

= [50 (1/2)(qA +qB)]qA 5qA

The Cournot Model

A Reaction Function
= [50 (1/2)(qA + qB)]qA 5qA

The Cournot Model

A Reaction Function
= [50 (1/2)(qA + qB)]qA 5qA
= 50 qA(1/2) qA 2 (1/2)qBqA
5qA

The Cournot Model

A Reaction Function
= [50 (1/2)(qA + qB)]qA 5qA
= 50 qA(1/2) qA 2 (1/2)qBqA 5qA

= 45qA (1/2)qA2 (1/2)qBqA

The Cournot Model

A Reaction Function

1 2 1
45qa qa qa qb
2
2

The Cournot Model

A Reaction Function

1 2 1
45qa qa qa qb
2
2
d
1
45 qa qb
dqa
2
The Cournot Model

A Reaction Function
d
1
45 qa qb 0
dqa
2
1
qa 45 qb
2
The Cournot Model

Symmetry
qA = 45 (1/2)qB
There is a similar reaction
function for B
qB = 45 (1/2)qA

The Cournot Model

Solving for As Output


qA = 45 (1/2)qB
qB = 45 (1/2)qA
qA = 45 (1/2)[45 (1/2)qA]

The Cournot Model

Solving for As Output


qA = 45 (1/2)[45 (1/2)qA]
qA = 22.5 + (1/4)qA

The Cournot Model

Solving for As Output


qA = 45 (1/2)[45 (1/2)qA]
qA = 22.5 + (1/4)qA
(3/4)qA = 22.5

The Cournot Model

Solving for As Output


qA = 45 (1/2)[45 (1/2)qA]
qA = 22.5 + (1/4)qA
(3/4)qA = 22.5

qA = (4/3)22.5
The Cournot Model

Solving for As Output


qA = 45 (1/2)[45 (1/2)qA]
qA = 22.5 + (1/4)qA
(3/4)qA = 22.5
qA = (4/3)22.5

qA = 30

qB = 30
The Cournot Model

A Graphical Approach
qA = 45 (1/2)qB
We want to use the reaction function to
come to a graphical solution,

The Cournot Model

A Graphical Approach
qA = 45 (1/2)qB
When B produces nothing A should
react by producing the monopoly
output (45).

The Cournot Model

A Graphical Approach
qA = 45 (1/2)qB
When B produces nothing A should react by
producing the monopoly output (45).

When B produces the output of the


competitive industry (90), A should
react by producing nothing.
The Cournot Model

A Graphical Approach
qA = 45 (1/2)qB
When B produces nothing A should react by
producing the monopoly output (45).
When B produces the output of the
competitive industry (90), A should react by
producing nothing.

Similar rules apply for Bs reactions.


The Cournot Model

Graphing the Reaction Function


As
Output

Bs
Output
The Cournot Model

Graphing the Reaction Function


As
90
Output

45

If B
produces
nothing, A
acts like a
monopoly

If B produces
the competitive
output, A
produces
nothing.

The Cournot Model

90

Bs
Output

Graphing the Reaction Function


As
Output
As
Reaction
Function

45

The Cournot Model

90

Bs
Output

Graphing the Reaction Function


As
90
Output

45

If A produces the
competitive output,
B produces nothing.
As
Reaction
Function

If A produces
nothing, B acts like
a monopoly.
45

The Cournot Model

90

Bs
Output

Graphing the Reaction Function


As 90
Output

Bs
Reaction
Function
As
Reaction
Function

45

45

The Cournot Model

90

Bs
Output

Graphing the Reaction Function


As
90
Output

45

If A and B are off their


reaction functions, they
react and change output.
Here B expands, A
contracts.

45

The Cournot Model

90

Bs
Output

Graphing the Reaction Function


As
Output

Bs
Output
The Cournot Model

Graphing the Reaction Function


As
Output

If A is here,
B wants to
be here

Bs
Output
The Cournot Model

Graphing the Reaction Function


As
Output

If B is here,
A wants to
be here
Bs
Output
The Cournot Model

Equilibrium
As
Output

Bs
Reaction
Function
As
Reaction
Function
Bs
Output
The Cournot Model

The Basic Steps


Plot the reaction functions
If B produces nothing, A behaves like a
monopoly
If B produces competitive output, A produces
nothing

Solve for their intersection

The Cournot Model

End

2003 Charles
W. Upton

The Cournot Model