Question

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Consider the demand for the photographic film industry discussed by McLaren in the textbook. Suppose that there are two countries, the US and Japan, each with one maker of film, namely Kodak in the US and Fuji in Japan. The demand curve for film in each country is given by the equation Q = 280- P , where P represents the price of film and Q the quantity sold. (As far as consumers are concerned, there is no difference between the two brands of film.) The two markets are segmented, in the sense that only Kodak and Fuji can transport film from one country to the

other, and the two companies compete as Cournot oligopolists in both markets. The marginal cost of producing film for both competitors in both markets is a constant equal to 40. Under free trade, assume to begin with that there are no transport costs.

1. . Show the effects of trade on: (1) Kodak’s profits; (2) US consumer surplus; and (3) US social welfare. (No calculation is needed; just draw the demnd curve and indicate which areas are relevant by indicating the letter names. For example, you might say “consumer surplus increases by A+B” where A and B are clearly labeled in the figure.
2. Is it possible for welfare to fall with trade if there are trade costs and firms are competing a la Cournot? Explain why.
3. Is it possible for welfare to fall with trade if there are trade costs and Bertrand competition? Explain why.

2. Can a country improve its welfare by strategically subsidizing/taxing its own firm? Use the best response functions you drew in Problem 3 to show how this can be done in a Cournot Duopoly.

Answer 1

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