Consider a duopoly market in which the market demand function is as follows: . For the two firms producing with identical marginal costs of 10, the Bertrand-Nash equilibrium price will be:
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1 mark, −0.333MicroeconomicsMonopolistic competition and oligopolyBertrand competitionEasyabout 1 min
GATE 2021 Question 8: Monopolistic competition and oligopoly
Answer and worked solution
Answer: (B)
In Bertrand price competition with a homogeneous product and identical constant marginal costs, any price above marginal cost cannot be an equilibrium: a firm charging slightly less than its rival would capture the entire market while still earning positive profit, so both firms have an incentive to undercut each other until price is driven down to marginal cost. At , neither firm can profitably undercut further (that would mean pricing below cost), and neither wants to raise price (it would lose all its customers to the rival).
Therefore the Bertrand-Nash equilibrium price equals marginal cost: — option (B). This is the classic 'Bertrand paradox' result: even just two competing firms are enough to replicate the perfectly competitive outcome, in stark contrast to the Cournot model's outcome for the same underlying market.
The trap: (C) 20
Students who default to computing a Cournot-style equilibrium (splitting the market and finding a positive markup over cost) instead of recognizing this is specifically a Bertrand (price-setting) game may arrive at a different, higher price that reflects Cournot rather than Bertrand competition.
Plain-text version
Consider a duopoly market in which the market demand function is as follows: P=40-Q. For the two firms producing with identical marginal costs of 10, the Bertrand-Nash equilibrium price will be: (A) 40 (B) 10 (C) 20 (D) 30
Monopolistic competition and oligopoly has come up 104 times in 7 exams since 2004.
What this question tests
This question is on Bertrand competition, part of Monopolistic competition and oligopoly in Microeconomics.
Firms competing on price, and why identical firms price at marginal cost.
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Question from the GATE 2021 paper. Solutions are TestStop's own. Not affiliated with or endorsed by any examination authority.