Suppose a market consists of two players (player 1 and player 2 ) who compete over quantities of a (homogenous) good. Both players make their output choices simultaneously and play a one-shot game. The inverse demand function is: P(Y ) = 1 - Y , where

Players 1 and 2 face the following cost functions:

(a) Compute the absolute profit-maximizing output level for each player assuming they have perfect information. Also, compute market price and profits.

Now suppose that players only know the inverse demand function and their own cost function (not their competitor's cost function). Players engage in this game twice (i.e. they play two periods) and can observe each other's output choices and profits at the end of period 1.

(b) How do you propose they choose output levels in each period? Your proposition should include a verbal argument and a mathematical approach.

(c) Show mathematically (and argue) how the asymmetry in this market can have negative consequences for the player that produces the good at a larger cost, assuming that neither player knows the other player's cost function.

(d) What can be said about the real world when considering your answers from (a) - (c)?