Assume that there are three firms in the industry; two high-cost firms, say firm
ID: 1099914 • Letter: A
Question
Assume that there are three firms in the industry; two high-cost firms, say firm A and firm B, and
one low-cost firm, say firm C. The inverse demand function for the good is given by P(Q) = 27 - Q. Cost function for high cost firms is given by TCi(q) = 4q , i=1,2 , while cost function for firm C is given by TCc(q) = 2q. Assume that frms compete in quantities.
(a) Solve for the Nash equilibrium price and quantities for each firm
Suppose that firm A proposes a merger with rm C, so that it enables to enhance motivations
and skills of firm A's employees. As a result of this merger, cost function for the combined firm
will be given by TCAC(q) = 2q. Now, firm AC and firm B compete in quantities in this market.
(b) Solve for the Nash equilibrium price and quantities for two firms in the industry.
(c) Calculate profits pre- and post-merger and determine whether or not the merger would be
profitable for the two merged firms at these values.
Explanation / Answer
Vertical mergers can best be understood from examining real world deals. One such merger occurred between Time Warner Incorporated, a major cable operation, and the Turner Corporation, which produces CNN, TBS, and other programming. In this merger, the Federal Trade Commission (FTC) was alarmed by the fact that such a merger would allow Time Warner to monopolize much of the programming on television. Ultimately, the FTC voted to allow the merger but stipulated that the merger could not act in the interests of anti-competitiveness to the point at which the public good was harmed.
Horizontal Mergers
A horizontal merger is when two companies competing in the same market merge or join together (say, if McDonald's were to merge with Burger King). This type of merger can either have a very large effect or little to no effect on the market. When two extremely small companies combine, or horizontally merge, the results of the merger are less noticeable. These smaller horizontal mergers are very common. If a small local drug store were to horizontally merge with another local drugstore, the effect of this merger on the drugstore market would be minimal. In a large horizontal merger, however, the resulting ripple effects can be felt throughout the market sector and sometimes throughout the whole economy.Large horizontal mergers are often perceived as anticompetitive. If one company holding twenty percent of the market share combines with another company also holding twenty percent of the market share, their combined share holding will then increase to forty percent. This large horizontal merger has now given the new company an unfair market advantage over its competitors. The amalgamation of Daimler-Benz and Chrysler is a popular example of a horizontal merger.