Two firms produce luxury sheepskin auto seat covers, Western Where (WW) and B.B.B. Sheep (BBBS). Each firm has a cost function given by

C (q) = 30q + 1.5q ^2

The market demand for these seat covers is represented by the inverse demand equation

P = 300 - 3Q

where Q = q at the bottom 1 + q at the bottom 2, total output.

Note: Use MC = 30 + 3q (1 at the bottom) and MC = 30 + 3q (2 at the bottom) for when the firms operate independently, and MC = 30 + 3(Q/2) for when they collude.

a. If each firm acts to maximize its profits, taking its rival's output as given (i.e., the firms behave as Cournot oligopolists), what will be the equilibrium quantities selected by each firm? What is total output, and what is the market price? What are the profits for each firm?

b. It occurs to the managers of WW and BBBS that they could have done a lot better by colluding. If the two firms collude, what will be the profit-maximizing choice of output? The industry price? The output and the profit for each firm in this case?

c. The managers of these firms realize that explicit agreements to collude are illegal. Each firm must decide on its own whether to produce the Cournot quantity or the cartel quantity. To aid in making the decision, the manager of WW constructs a payoff matrix like the one below. Fill in each box with the profit of WW and the profit of BBBS. Given this payoff matrix, what output strategy is each firm likely to pursue?

Profit Payoff Matrix BBBS (WW profit, BBBS profit) Produce Cournot q Produce Cartel q WW Produce Cournot q Produce Cartel q

2. Suppose all firms in a monopolistically competitive industry were merged into one large firm. Would that new firm produce as many different brands? Would it produce only a single brand? Explain.