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Suppose the market demand for a good is given by P = 60 – 2Q. Also,...

Suppose the market demand for a good is given by P = 60 – 2Q. Also, there is an incumbent firm already in the market, and a potential entrant. Let’s call the incumbent firm Firm 1, and the potential entrant Firm 2. Each firm has an identical Total Cost of production given by TC = 128 +4q, where q is the quantity of output produced by that firm. MC for each firm = 4.

a) What is Firm 2’s Best Response function?

b) Suppose Firm 1 wishes to produce a quantity of output so that the maximum profit the entrant could make is $0. How much output should Firm 1 produce?

c) On a graph, draw the Market Demand curve, the ATC curve, and the Residual Demand curve that firm 2 faces after Firm 1 produces the quantity that limits Firm 2’s profit to a maximum of $0. For the ATC, use quantities equal to 4, 8, and 12 to sketch your graph.

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