Consider a homogeneous product industry with inverse demand given by p(Q) = 100 – 20. There is currently one incumbent firm and one potential entrant. Entry into the industry requires a sunk cost of F. Both firms have the same variable cost function: C(q) = 10q. (a) Determine the incumbent's optimal output in the absence of the entry threat. (b) What output should the incumbent firm set to deter entry? (Your answer will be a function of F!) (c) Assuming that the incumbent firm decides to deter entry, determine the Lerner index as a function of F. Discuss the result.

ENGR.ECONOMIC ANALYSIS
14th Edition
ISBN:9780190931919
Author:NEWNAN
Publisher:NEWNAN
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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You must solve part A.
Then you can choose:
Option 1: part b and c
Option 2: part d and e.
Consider a homogeneous product industry with inverse demand given by p(Q) = 100 – 20. There is
currently one incumbent firm and one potential entrant. Entry into the industry requires a sunk cost
of F. Both firms have the same variable cost function: C(q) = 10q.
%3D
(a) Determine the incumbent's optimal output in the absen
of the entry threat.
(b) What output should the incumbent firm set to deter entry? (Your answer will be a function of FI)
(c) Assuming that the incumbent firm decides to deter entry, determine the Lerner index as a
function of F. Discuss the result.
(d) Will the incumbent firm prefer to deter entry when F 12.5? Will the incumbent firm prefer to
deter entry when F = 25?
(e) More generally, for what values of F do we have blockaded entry in equilibrium? For what value of F
do we have entry accommodation in equilibrium? For what values of F do we have entry deterrence in
equilibrium?
Transcribed Image Text:You must solve part A. Then you can choose: Option 1: part b and c Option 2: part d and e. Consider a homogeneous product industry with inverse demand given by p(Q) = 100 – 20. There is currently one incumbent firm and one potential entrant. Entry into the industry requires a sunk cost of F. Both firms have the same variable cost function: C(q) = 10q. %3D (a) Determine the incumbent's optimal output in the absen of the entry threat. (b) What output should the incumbent firm set to deter entry? (Your answer will be a function of FI) (c) Assuming that the incumbent firm decides to deter entry, determine the Lerner index as a function of F. Discuss the result. (d) Will the incumbent firm prefer to deter entry when F 12.5? Will the incumbent firm prefer to deter entry when F = 25? (e) More generally, for what values of F do we have blockaded entry in equilibrium? For what value of F do we have entry accommodation in equilibrium? For what values of F do we have entry deterrence in equilibrium?
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