COURNOTS MODEL

BY,
ANUSHA S

COURNOT COMPETITION

Economic model used to describe an industry

structure in which companies compete on
the amount of output they will produce,
which they will decide on independently of
each other and at the same time.
Named afterAntoine Augustin Cournot who
was inspired by observing competition in a
duopoly.

FEATURES

There is more than one firm and all firms produce

ahomogeneous product i.e. there is noproduct
differentiation.
Firms do not cooperate, i.e. there is nocollusion.
Firms havemarket power, i.e. each firm's output
decision affects the good's price.
The number of firms is fixed.
Firms compete in quantities, and choose
quantities simultaneously.
The firms are economically rational andact
strategically, usually seeking to maximize profit
given their competitors' decisions.

NASH EQUILIBRIUM

Each firm is doing the best it can, given what

its competitors are doing.
Non-cooperative outcomes.
Each firm chooses the strategy to maximize
its profits given its opponents actions.
At the equilibrium, there is no incentive to
change strategies, since you cannot improve
payoffs.
A Cournot equilibrium is an example of a
Nash equilibrium.

OPTIMIZATION

Equilibrium is reached when each firm

correctly assumes the opponents output and
chooses a level of output Q that maximize its
own profits.
There is no incentive for either firm to
change.

WHAT EACH FIRM HAS TO DO TO

MAXIMIZE PROFIT?
Given a market demand of: Q (P) and production levels by
two producers of Q = Q1 + Q2, then in order to maximize
profits, each company has to:
1. Calculate its Marginal Revenue as a function of Q1 and
Q2 (using the equation Q=Q1 +Q2)
2. Set this Marginal Revenue equal to the Marginal Cost
3. Solve for its Quantity. By doing so, the optimal level of
quantity for each company will be given by an equation
that is a function of the other firms quantity. This
equation is called reaction curve and illustrates the
optimal level of quantity of each firm, given the other
produced quantities: Q1 = R1(Q2) and Q2 = R2(Q1)

Firm 1s reaction
curve depicts how
firm 1 will react
given various
beliefs it might
have about firm2s
choices.
The intersection of
two reaction curves
is cournat- nash
equilibrium where
q1=q2.

IMPLICATIONS

Output is greater with Cournot duopoly than

monopoly, but lower than perfect competition.
Price is lower with Cournot duopoly than
monopoly, but not as low as with perfect
competition.
According to this model the firms have an
incentive to form a cartel, effectively turning the
Cournot model into a Monopoly. Cartels are
usually illegal, so firms might instead tacitly
collude using self-imposing strategies to reduce
output which,ceteris paribuswill raise the price
and thus increase profits for all firms involved.