In Section 8.1 we showed that when the incumbent firm 1 accommodated entry, it earned profits:

1a

= (60 – c/2) · (30 – c/4) – F When this same firm chose capacity to deter entry, it earned profits:

1d

= 2 F · (120 –

c) – 5F The incumbent will deter entry as long as 1d >

1a

, or as long as 1d

–

1a > 0. Suppose marginal cost c = 60.

(a) Solve for 1d

–

1a

.

(b) For which values of the fixed cost F will the incumbent deter entry?

(c) Can you interpret the fixed cost F as a cost of entry deterrence? Is the incumbent more or less likely to deter entry as F gets larger?