Suppose that there are only two firms (Firm A and Firm B) in the market for decorative lampshades. Let the inverse demand function and the total cost function be given by: P = 50 –Q and TC = 2Q Assume that Firm A and Firm B initially agree to collude with each other and coordinate price and output decisions. Each firm will produce half of the industry output.
(a) How many lampshades would be produced by the entire industry? What price would be charged for each lampshade?
(b) Using your answer from Part (a) calculate the profit earned by each firm in the industry.
(c) Suppose that Firm B assumes that Firm A will honor its agreement. Firm B decides to cheat and produce 2 more units than what Firm A will produce. Calculate the profits for both Firm A and Firm B.