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Teaching notes for chapter 8

As mentioned in Chapter 7, there are essentially three "solutions" to the Bertrand "paradox"--the fact that, under the assumptions of the Bertrand model, prices are equal to marginal cost even with only two competitors. Chapter 7 introduces the first of these solutions: capacity constraints. Chapters 8 and 12 focus on the two other solutions, repetition and product differentiation.

The main point of Chapter 8 is that, when firms compete over a number of periods, equilibrium prices may be above marginal cost when otherwise (i.e., with no repetition) the only equilibrium would be to price at the level of marginal cost. The intuition is that the short-term gains from undercutting a competitor may not compensate the longer-term losses from entering into a price war.

In addition to explaining this idea, Chapter 8 outlines the main conditions under which we would expect pricing above marginal cost to be an equilibrium. The first set of conditions is that the discount factor is sufficiently close to one, which essentially means that firms interact frequently enough. Sections 8.2 and 8.3 address other factors that facilitate collusion.

Implicit or explicit collusion is an area of great importance in antitrust and competition policy. This is a chapter where it should be easy to find many current examples. In addition to the ones in the book, some are presented in this website. Moreover, a possible assignment for this chapter could be to ask students to come up with a current example featuring collusion and possible antitrust remedies. For this purpose, it may be useful to follow the links to "government institutions" under the links area of this website.

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