Cournot competition is an economic model describing an industry structure in which rival companies offering an identical product compete on the amount of output they produce, independently and at the same time. It is named after its founder, French mathematician Augustin Cournot. Key Takeaways Cournot competition is an economic model in which competing firms choose a quantity to produce independently and simultaneously. The model applies when firms produce identical or standardized goods and it is assumed they cannot collude or form a cartel. The idea that one firm reacts to what it believes a rival will produce forms part of the perfect competition theory. Understanding Cournot Competition Companies operating in markets with limited competition, called oligopolies , often compete by seeking to steal market share away from each other.
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Topic 4: Duopoly: Cournot-Nash Equilibrium We now turn to the situation when there are a small number of firms in the industry and these firms have the option of colluding with or competing with each other.
To begin with, we assume that there are only two firmsa situation called duopoly. Then in the next Topic we will consider a larger number of firmsfirst four and then ten. When there are only two firms in the industry, it is in their advantage to collude and set the price and their individual outputs at levels that will maximize their joint profits. The curves in all the Figures presented in this topic are calculated precisely using the free statistical program R and the magnitudes of the prices, quantities and profits are presented in the output file cournot.
These numbers are calculated using the input file cournot. R , the contents of which also appear in the output file. These calculations are performed under the assumption that the industry demand curve is 1. The above equation turns out to be identical to the demand curves of the individual firms. There are two problems with collusion. First, it is illegal in most advanced industrial countries, so that any collusive arrangements can not be written down and legally enforced.
Second, given this illegality, any collusive arrangement can be be profitably broken by one of the parties to the detriment of the other. Suppose that one of our two firms decides to break their collusive arrangement and to act independently, while the other firm chooses to follow that arrangement.
The situation with respect to the deviant firm is presented in Figure 2 below. As shown in cournot. Its collusive partner, whose output is assumed to remain unchanged, suffers a reduction in its profits from the previous monopoly level of The deviant firm increases its profits by At this point, it becomes reasonable for the colluding partner firm to also break with the collusive arrangement and produce its most profitable output, given the output of its break-away partner.
At that point, the break-away partner can increase its profits by adjusting its output to the most profitable level given the new level of output of the other firm. The two firms will continue to adjust their outputs in this fashion until neither firm can gain by further adjusting its output.
The resulting equilibrium is called the Cournot equilibrium, after Antoine Augustin Cournot , and is presented in Figure 3 below which, given our assumption that the two firms are identical, represents the equilibrium of each of them.
To obtain this equilibrium we assume that each firm adjusts its output to maximize its profits, which are equal to 5. R and denoted as MC in the three Figures above. This is Of course, we can not take very seriously the magnitudes of the numbers in the example above. That example is based solely on the assumptions that the average total cost curve is U-shaped, that the industry demand curve is negatively sloped, and that the two firms are identical.
These assumptions are consistent with a wide variety of possible numerical resultsall that is important is the direction of the effects that arise from one or both firms breaking the collusive arrangement.
An important tool used to analyse the interaction of firms under conditions where collusion is possible but such arrangements can be easily broken is game theory analysis. Suppose that there are two criminals jointly guilty of a serious crime who have been arrested by the police and are being interviewed separately and simultaneously. Each prisoner has the option of either confessing or not confessing to the crime. If neither confess a conviction will be hard to obtain and both will be convicted of a smaller crime and have to serve 1 year in jail.
If one prisoner confesses but the other does not, the one who confesses will go free while the other will serve 20 years in prison. If both confess, they will each have to serve 10 years in prison. The situation is outlined in the Table below: Prisoner 2.
Cournot Model of Game Theory | Decision Making | Microeconomics
Cournot has given the duopoly model in his book. According to him, the model has a unique equilibrium when demand curve are liner. The model explains that the two firms choose the output levels in competition with each other. The Cournot model has a continuous strategy. The order of play and payoff function is explained in the following paragraph. Such model is based on following assumptions: i. There are two sellers to produce and sale homogenous product.
The model was developed in the 19th century by French mathematician Augustin Cournot while analyzing two companies selling spring water. Cournot Competition Theory Cournot competition theory is an economic model that describes how two rival companies can compete when they are offering the same product in the same market without colluding. So, you should try to determine how much your competitor is going to produce so that you will be able to maximize your profits. The companies do not collude or form a cartel. The companies have the same insights on market demand. The market determines the sales price.