Question

11. Suppose two firms (1 and 2) sell differentiated products and compete by setting prices. The demand functions are q1 = 7 − P1 + (P2/2) and q2 = 7 − P2 + (P1/2).

Firms have a zero cost of production.

(a) Find the Nash equilibrium in the simultaneous-move game. Also find the quantities sold by each firm. [5 marks]

(b) Find the subgame-perfect equilibrium if 1 moves before 2. Also find the quantities sold by each firm. [5 marks]

(c) Calculate the profits of the two firms for the case in part (b). Which firm gets a higher profit, the first mover or the second mover? [5 marks]

(d) Briefly explain the intuition for the result in part (c). [5 marks]

Answer 1