Cournot Duopoly
Here we study a special type of
market structure - two firms.

PREPAIRED BY ±
NAME ROLL NO.
MEENU 25
NISHA 26
AKANKSHA 27
DISHA 28
MANSI 29
SHALINI 30
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INTRODUCTION

Define Cournot Model?

1. Given by Antoine Cournot.
2. This model in terms of duopoly, can be
extended to oligopolistic situation.
3. This model analyses the process of
equilibrium in a duopoly situation when each
duopolist assumes that his rival will not react
when he changes his output to maximize
profits.

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DEFINITIONS

 OLIGOPOLY COMPITITION
It is a few big firms compete for their
homogeneous products or differentiated products.
Here entry of a new firm in the industry is quite
difficult.

 DUOPOLOY COMPITITION
In this kind of competition there is the existence of
only two firms to compete for their homogeneous
products or differentiated products

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ASSUMPTION OF COURNOT
MODEL
The assumptions for Cournot Model and are as follows:-

 There are two sellers in the market.

 The products sold by these two sellers are homogeneous.
 The market, or total demand curve, is known and it is a
straight line.
 Each duopolistic assumes that his rival¶s output will remain
constant when he changes his output.
 Each duopolist produces output of which the profits are at
the maximum.
 The cost of production is zero for both the seller.

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EXPLINATION OF MODAL
 Say we have a market where the demand in the market is
 P = 100 - 2Q (graph on next slide).
 If we had only one firm in the market - a monopoly - and if
the firm had a constant MC = 10, then we know the profit
maximizing firm would find the Q where MR = MC and set
the Q back into the demand curve to get the price. Let¶s do
this.
 MR = 100 - 4Q = 10 = MC, or Q = 22.5,
 and then P = 55.
 If MC is constant at 10, then the cost of each unit added is
10. Part of total cost then is MC times Q. For what we do
here we will only have this part of TC and thus profit here is
 55(22.5) - 10(22.5) = 1012.5
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COURNOT MODEL

MR=100-4Q

Pm=55 P=100-2Q

Pc=10 MC=10

Qm = 22.5 Qc = 45

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 Now, since price is driven to MC in a competitive

market with many firms, Pc = MC = 10 and the
market output would be (100 - 2Q = 10) Q = 45.
 The overall profit across firms would be
 10(45) - 10(45) = 0.
 Now, let¶s consider a model thought up by a guy
named Cournot (rhymes with tour go). Cournot
said consider only two firms selling in a market.
The way that each firm understands the market is
that each will pick its own output level. Then when
the other firm¶s output level is added in the price
will determined from the demand curve.

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 Now, if there are two firms in the market, the market demand
would be served by both firms and we might think of the
demand as P = 100 - 2Q = 100 - 2(q1 + q2),
 where q1 & q2 represent the output of each firm.
 Each firm wants to maximize its own profit. Again, each
firm will pick a level of output and when added together will
determine the market price. The profit for each firm will be
 firm 1 Pq1 - mcq1
 firm 2 Pq2 - mcq2.
 As an example, if both make 1 unit (and MC = 10 for both),
then
 P = 100 - 2(1+1) = 96, firm 1 profit = 96(1)-10(1) = 86 and
firm 2 profit = 96(1)-10(1)=86. On the next slide I put a
game theory matrix with this outcome and you will work out
other outcomes.

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 Firm 1 looks at the market demand and sees

 P = 100 - 2q2 - 2q1, where q2 is listed first
because firm 1 can not directly pick q2 and
thus treats it as a given much like the number
100.
 The MR for firm 1 is
 MR = 100 - 2q2 - 4q1, and with a MC = 10 we
see the MR = MC rule give us
 100 - 2q2 - 4q1 = 10, or q1 = (90/4) - (2/4)q2,

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 The result for firm 1,

 q1 = (90/4) - (2/4)q2,
 has typically been called a reaction function because firm 1¶s
profit maximizing level of output depends on what amount
firm 2 makes. So, firm 1 reacts to what firm 2 does. The
authors suggest we call the function the best response
function for firm 1
 Firm 2 has a similar best response function:
 q2 = (90/4) - (2/4)q1.
 Now, think for a minute what firm 1 would do if firm 2 made
nothing. Firm 1 would have Q = 90/4 or 22.5, and we
remember this is the monopoly solution.
 But, if firm 2 saw firm 1 make 22.5 it would want to make
Q = 11.25. But if firm 1 saw firm 2 make 11.25..... This goes
on.

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 Imagine we place all these possibilities in a big game theory

matrix. What is each firm to do? It has been shown that the
solution to the Cournot duopoly problem is actually a Nash
equilibrium. This means each firm will not have an incentive
to change its output, given the output of the other firm.
 Here is how we arrive at the Cournot solution:
 Firm 1 best response function Firm 2 best response
function
 q1 = (90/4) - (2/4)q2, q2 = (90/4) - (2/4)q1,

Substitute this over

into that, like on the
next page

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 q1 = (90/4) - (2/4)q2,
 = (90/4) - (2/4)[(90/4) - (2/4)q1] I am going to
forget the subscript on the q for a minute because it
is easier to type. So, we have (when we multiply
through by 4)
 4q = 90 - 2[(90/4) - (2/4)q) = 90 - (90/2) + q, so
 3q = 45, or q1 = 15.
 Similarly firm 2 would have q2 = 15.
 The market output would be 30 and the price in the
market from the demand curve would be P = 100 -
2Q, or
 P = 40.

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Summary:
P Q
Monopoly 55 22.5
P. Comp 10 45
Duopoly 40 30

So, the duopoly solution is between the

monopoly and perfect competition solutions.

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CONCLUSION
 Cournot¶s analysis suggests that as the number of firms
increases ± as the market structure becomes less concentrated
± the mark-up of price over marginal cost shrinks.
 Thus, structure influences performance.
 A section of the text also suggests that if firms do not have the
same MC, the one with the higher cost will have a smaller
market share and lower profits.
 From a game theory point of view, the Cournot model
assumes firms act simultaneously.

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THANK YOU!

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