Facultat de Ciències Econòmiques i Empresarials

UdG Departament d’economia

Industrial Economics 31/05/2017 Prof. N. Boccard

Name: DNI / ID:

Theory [20 pts]

Business Insider, May 24th, 2017: The manager of a large and successful investment fund thinks
ride share service Uber has a less than 1% chance of surviving the next decade and is one of the
most stupid investments in history. What could possibly induce such a conclusion ? Think in
terms of competition and differentiation, contrasting the present and the coming future.
Answer Uber is a disruptive transportation service that is cheaper and better than traditional
Taxi (as attested by thousands of positive comments on social media). This start-up has received
enormous financing because although it keeps losing money (just like Facebook used to), investors
hope that Uber will establish such a dominance over urban transportation that it will later be able
to “cash” on it (the way Facebook introduced advertising). The manager cited in the news-clip
begs to differ because he already sees competitors like Lyft or Blablacar that will force prices down
forever. The worst menace that we may anticipate for Uber are self-driving cars that will remove
the need for taxi services altogether in the not-so distant future.

Exercise A [30 pt]

Repsol competes in quantity against Cepsa in the gasoline market. The daily demand in Figueras
is D(p) = 600 − 6p (price in d). The unit cost of production is 25d for both.
i) Describe and name this model of duopolistic competition.
ii) Compute the best replies and draw them.
iii) Compute the equilibrium: quantities, market demand, price.
iv) Draw the market demand curve and indicate the equilibrium (price, market demand). Indicate
the areas corresponding to the various surpluses. Compute those surpluses.
v) Would any of these firms or both of them be willing to enter a collusive agreement ? Under what
conditions would the agreement be acceptable for both ?
vi) Firms found a way to monopolize this market. Find the cartel’s equilibrium: price, total quan-
tity and the individual productions and profits. Explain the steps you follow.
Answer i) This is so-called Cournot model of duopolistic competition over an homogeneous
goods. ii) With marginal cost of 25 and price function P (Q) = 100 − Q/6, the best replies are q 1 =
225 − q 2 /2 and symmetrical formula for the other firm. iii) The equilibrium is then q 1 = q 2 =
150,Q = 300, p = 50. iv) C S = 7500 = P S, π1 = π2 = 3750, DW L = 1875. v) Yes, as we know from
theory, a collusive agreement allows to monopolize the market, raise the price and enjoy greater
profits (with a proper distribution). The only condition is that no-one will be able to cheat on

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the agreement. vi) The monopoly quantity is the best reply to zero i.e., Q M = 225 with a price of
p M = 62.5. Each firms sells 112.5 units and earns 4219.

Exercise B [30 pt]

Dr Andreu sells his famous cough pills in Barcelona and Mallorca where demand functions are re-
spectively p 1 (q 1 ) = 18 − q 1 and p 2 (q 2 ) = 14 − q 2 . Due to transportation, the Mallorca cost function
is c 2 (q 2 ) = 2q 22 − 4q 2 while the Barcelona one is c 1 (q 1 ) = q 12 − 2q 1 .
i) Compute the optimal sales and prices in both cities.
ii) Find the total profit of Dr Andreu, consumer surpluses in both cities and total welfare.
iii) If Madrid forbids price discrimination between regions, find THE optimal price when Dr An-
dreu produces everything in Barcelona.
iv) Explain why Dr Andreu chose to produce solely in Barcelona.
v) What price would prime minister Bernie Sander/Jeremy Corbyn/Eulàlia Reguant choose for
these cough pills ? Argue your answer.
Answer i) Andreu maximizes profits in Barcelona and also in Mallorca. Solving marginal rev-
enue equal to marginal (which is not instant here), we find q B = 5, p B = 13 and q m = 3, p m = 11.
ii) Profits are 50 and 27 respectively, thus 77 overall. Consumer surpluses are 12.5 and 4.5, thus
17 overall. Total welfare is then 62.5 and 31.5. iii) This decision creates a “Spanish” market and a
Spanish price p. Demand is now D(p) = D b (p) + D m (p) = 18 − p + 14 − p = 32 − 2p so that price
function is P (q) = 16 − q/2. Production takes place in Barcelona at marginal cost 2Q − 2. Optimal
sales are thus Q e = 6 achieved with the price p e = 13. iv) Andreu decides to produce everything in
Barcelona (it could as well have been Valencia) because it is cheaper (just draw the two marginal
cost curves on a graph to see that). v) The communist leader would obviously aim for a low price
i.e., solve P = MC . We find Q ∗ = 7.2, p ∗ = 12.4. Since the technology displays diseconomies of
scale, one could even argue for average cost pricing i.e., P = AC leading to Q = 12, p = 10.

Game [20 pts]

Lately, China has been artificially expanding rocks in the sea of China into island in order to in-
crease the extend of its territorial waters. In response to the demands of its allies in the region,
the USA just sent a (big) military ship in the area for the first time. From this point on, China may
either keep constructing (α) or stop (β) while the USA may either adopt a defying stance (γ) or
accommodate the Chinese policy (δ). The Chinese preferences regarding the possible combina-
tions, are, from best to worst, αδ > βδ > βγ > αγ while the Americans’ are βγ > βδ > αγ > αδ.
i) Draw the game tree, mark the strategies, the outcomes and the payoffs.
ii) Solve this game by backward induction.
iii) Write the matrix form of this game (simultaneous play).
iv) Is there a dominant or dominated strategy ? Find the equilibrium/a.
v) (+5 pts) Solve the game if Trump’s macho stance triggers a durable world economic crisis.
Answer i-iii) As seen on the picture, the USA, who play second in this story, choose rationally

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the red arrows (contingent on what China has previously done). Going backward in the tree, China
picks the blue arrow. We realize from the matrix that γ is a dominant strategy for the USA. The
unique Nash equilibrium is thus (β, γ). If macho vs. macho triggers an economic crisis, Trump
would lose re-election which means that outcome αγ is now worst for him. A novel equilibrium
(α, δ) appears.

China
Continue (α) Stop (β)
USA
China γ δ
USA USA
Defy (γ) Fold (δ) Defy (γ) Fold (δ) α 1,2 4,1

1,2 4,1 2,4 3,3

β 2,4 3,3