Consider an incumbent that is a monopoly currently earning $2 million annually. Given the declining costs of raw materials, the incumbent believes a new firm may enter the market. If successful, a new entrant would reduce the incumbent's profits to $1.2 million annually. To keep potential entrants out of the market, the incumbent lowers its price to the point where it is earning $1.6 million annually for the indefinite future.

a. What pricing strategy is the incumbent considering?

b. If the interest rate is 10 percent, will it be profitable for the incumbent to adopt this strategy if it plans to operate on continuing basis? Why?