Firms 1 and 2 compete in a Cournot duopoly. If firm 2 adopts a strategy that raises firm 1's marginal cost:
A) firm 1 will reduce its output.
B) firm 2 will lose market share.
C) firm 2 will enjoy lower profits.
D) None of the statements is correct.

Question

Quizplus · Accepted Answer

If firm 2 raises firm 1's marginal cost, it will reduce firm 1's profit potential. In order to maximize their profits, firm 1 will reduce its output to account for the higher costs. Thus, choice A is the best answer. Choice B is not necessarily true since we do not know the market conditions, and it is possible that firm 2 may still maintain its market share even if firm 1 reduces its output. Choice C is also not necessarily true since we do not know the overall impact on firm 2's profits.

Firms 1 and 2 Compete in a Cournot Duopoly