A single firm that charges the monopoly price in the market earns $500.If another firm successfully enters the market,the incumbent's profits fall to $325 and the entrant earns $250.If the incumbent engages in limit pricing,its profits are $400.For what interest rate,i,is limit pricing a profitable strategy for the incumbent? A) i

Question

A single firm that charges the monopoly price in the market earns $500.If another firm successfully enters the market,the incumbent's profits fall to $325 and the entrant earns $250.If the incumbent engages in limit pricing,its profits are $400.For what interest rate,i,is limit pricing a profitable strategy for the incumbent?
A) i < 0.75
B) 0.75 < i < 1.0
C) 1.0 < i < 1.33
D) i > 1.33

Quizplus · Accepted Answer

If the incumbent engages in limit pricing, it earns $400 instead of $325. The difference in profit is $75. The interest rate at which the present value of the $75 difference is equal to the $500 monopoly profit is when $75/i = $500, which simplifies to i < 0.75.

A Single Firm That Charges the Monopoly Price in the Market