The makers of Panadol pain reliever do a lot of advertising and have very loyal customers. In contrast, the makers of generic paracetamol do no advertising, and their customers shop only for the lowest price.

Assume that the marginal costs of Panadol and generic paracetamol are the same and constant.

a. Draw a diagram showing Panadol’s demand, marginal revenue and marginal cost curves. Label Panadol’s price and mark-up over marginal cost.

b. Repeat part

(a) for a producer of generic paracetamol. How do the diagrams differ? Which company has the bigger mark-up? Explain.

c. Which company has the bigger incentive for careful quality control? Why?

d. How might barriers to entry influence the behaviour of the makers of Panadol?

e. What factors would affect the extent to which the makers of Panadol could engage in predatory or destroyer pricing to force out competitors in this market.