The Cournot Model

Oligopoly model in which firms produce a homogeneous good, each firm treats the
output of its competitors as fixed, and all firms decide simultaneously how much to
produce.

Suppose two firms are initially producing output levels that differ from the Cournot
equilibrium. Will they adjust their outputs until the Cournot equilibrium is reached?
Unfortunately, the Cournot model says nothing about the dynamics of the
adjustment process. In fact, during any adjustment process, the model's central
assumption that each firm can assume its competitors output is fixed will not hold.
Because both firms will be adjusting their outputs, neither output is fixed.

When is it rational for firms to assume that its competitors output is fixed? It is
rational if the two firms are choosing their outputs only once because then their
outputs cannot change. It is also rational once they are in Cournot equilibrium
because then neither firm will have any incentive to change its output. When using
the Cournot model, we must therefore confine ourselves to the behavior of firms in
equilibrium.

First Mover Advantage - The Stackelberg Model

The Cournot and the Stackelberg models are alternative representations of
oligopolistic behavior. Which model is more appropriate depends on the industry. In
an industry composed of roughly similar firms, none of which have a strong
operating advantage or leadership position, the Cournot model is probably the more
appropriate. On the other hand, some industries are dominated by a large firm that
usually takes the lead in introducing new products or setting price; the mainframe
computer maker is an example, with IBM the leader. Then The Stackelberg model is
more realistic.

Price Competition with Homogeneous products – Bertrand

Model
Suppose two duopolists compete by simultaneously choosing price instead of a
quantity. What price will each firm choose? If the product is homogeneous, the firms
have to choose the same price because otherwise the other firm would go out of
business. The Nash equilibrium in this case is the perfectly competitive outcome.
Both the firms would sell at their marginal cost and would earn zero profits. No firm
can unilaterally raise prices because then the other firm, with lower prices, would
supply the entire demand.

Why couldn’t there be a Nash equilibrium in which the firms charged the same
price, but a higher one?

If either firm lowered its price just a little, it would supply the entire market. Thus in
this scenario, each firm has incentives to undercut its rival’s prices.
Equilibrium outcome can depend crucially on the firm’s choice of strategic
variable.

Price Competition with Differentiated Products

A game is any situation in which players take strategic decisions that take into
account each other’s actions and responses. Strategic decisions result in payoffs to
the players.