In France, the market for bottled water is controlled by two large firms, Perrier and Evian. Each firm has a fixed cost of €1 million and a constant marginal cost of €2 per liter of bottled water (€1 = 1 euro). The following table gives the market demand schedule for bottled water in France.
Quantity of bottled
Price of bottled water water demanded
(per liter) (millions of liters)
€10……………………………… 0
9………………………………… 1
8………………………………… 2
7………………………………… 3
6………………………………… 4
5………………………………… 5
4………………………………… 6
3………………………………… 7
2………………………………… 8
1………………………………… 9
a. Suppose the two firms form a cartel and act as a monopolist. Calculate marginal revenue for the cartel. What will the monopoly price and output be? Assuming the firms divide the output evenly, how much will each produce and what will each firm's profits be?
b. Now suppose Perrier decides to increase production by 1 million liters. Evian doesn't change its production. What will the new market price and output be? What is Perrier's profit? What is Evian's profit?
c. What if Perrier increases production by 3 million liters? Evian doesn't change its production. What would its output and profits be relative to those in part b?
d. What do your results tell you about the likelihood of cheating on such agreements?