Econ 2022.2022.23. Assignment 1.WoA

Addis Ababa University
College of Business and Economics

Department of Economics
Econ 2022: Microeconomics II

A.Y.: 2022/23
Semester: I
Program: BA. in Economics (Extension)
Credit Hours: 3
Assignment #1
Instructions
i. This assignment may account for 15-20% of the total marks.
ii.Answers should be clear and to the point
iii.
Hand-written answers should be legible. Answers that are not legible may not be graded.
iv.Students can work together and submit answers in groups of up to 4. Do not include
names of students who have not participated in the work.
v. The due date is 15 December 2022
1. Suppose that two identical firms produce widgets and that they are the only firms in the
market. Their total costs are given by C1 = 60Q1 and C2 = 60Q2, where Q1 is the output of Firm
1 and Q2 the output of Firm 2. Price is determined by the following demand curve:
P=300-Q,
where Q = Q1 + Q2.
a. Find the Cournot-Nash equilibrium.
b. Calculate the profit of each firm at this equilibrium.
2. Suppose that firm 1 and 2 operate under conditions of constant average and marginal cost but
that firm 1’s marginal cost is c1 =10 and firm 2’s is c2= 8. Market demand is Q= 500-20P.
a. Suppose firms practice Bertrand competition, that is, setting prices for their identical
products simultaneously. Compute the Nash equilibrium prices. (To avoid technical
problems in this question, assume that if firms charge equal prices then the low-cost firm
makes all the sales.)
b. Compute firm output, firm profit, and market output.
c. Is total welfare maximized in the Nash equilibrium? If not, suggest an outcome that would
maximize total welfare.
3. Consider an industry with 2 firms, each having average and marginal costs equal to zero. The
(inverse) demand curve facing this industry is
P(Y) =100-Y,
where Y = yl+y2is total output.
a. If each firm behaves as a Cournot competitor, derive firm 1’s and 2’s reaction functions
Calculate the Cournot equilibrium amounts of output for each firm.
b. Calculate the cartel amount of output for the industry.
c. If firm 1 behaves as a follower and firm 2 behaves as a leader, calculate the Stackelberg
equilibrium output of each firm.
4. Two duopolists, Ajax and Bjax are both considering an expansion of their capacity. The
following payoff matrix shows how their profits (in millions of dollars) depend on their
decisions.
Bjax has low capacity Bjax has large capacity
Ajax has low capacity 8, 5 5, 4
Ajax has large capacity 9, 4 4, 3
a. Which company has a dominant strategy? Explain.

b. Is there a Nash equilibrium for this game?
c. Will the companies expand their capacity? Explain your answer.
5. Suppose that in a purely oligopolistic industry, there is one dominant firm and two small
identical firms. The market demand for the commodity is: Q = 40-P. The dominant firm
has a marginal cost curve, MCd =1+Qd, while each of the small firms has MCi = 1+Qi/2
(i=1,2).
a. Find the price the small firm will set and its market supply (Qd)
b. How much will the two small firms supply (QS) at the price set by the dominant firm?
6. Consider the following payoff matrix of a game
Column
Left right
Top 10, 15 10, 15
Row Bottom 0, 0 15, 10
a. Assuming the two players move simultaneously, find the pure strategy Nash equilibrium
of this game
b. Assume now Row moves first and Column moves after observing Row’s move. Use
game tree and calculate the sub game perfect Nash equilibrium.
7. The game of Chicken is played by two macho teens who speed toward each other on a single-
lane road. The first to veer off is branded the chicken, whereas the one who doesn’t veer gains
peer-group esteem. Of course, if neither veers, both die in the resulting crash. Payoffs to the
Chicken game are provided in the following table.
Player 2
Veer Don’t Veer
Veer 2, 2 1,3
Player 1
Don’t Veer 3,1 0, 0
a. Draw the extensive form.

b. Find the pure-strategy Nash equilibrium or equilibria.
c. Compute the mixed-strategy Nash equilibrium.
d. calculate the expected payoffs from playing the mixed-strategy Nash equilibrium in part (c).

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Addis Ababa University

College of Business and Economics

Econ 2022: Microeconomics II

a. Which company has a dominant strategy? Explain.

6. Consider the following payoff matrix of a game

Don’t Veer 3,1 0, 0

a. Draw the extensive form.

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