Image transcription text Firm ‘l must decide whether to enter an industry in which firm 2 is an incumbent. To enter this industry. firm ‘l

Image transcription text Firm ‘l must decide whether to enter an industry in which firm 2 is an incumbent. To enter this industry. firm ‘l must choose to build either a plant with a small output capacity (5), or large output capacity (L). A plant with
small capacity costs $50 to set up: one with large capacity cost $175. in either case. the marginal cost of production is zero. But firm 1 can also opt to stay out (0). in which case it does not incur any type of cost. Firm 2 is
able to observe firm ‘l’s decision before deciding whether to expand or not its al small output capacity operation. Expanding (E) costs firm 2 $75. whereas not expanding (N) incurs no cost for the firm. In either case. the marginal cost of production is also zero. The revenues under the different scenarios are given below. – If only one small firm exists its revenue is $30. the other earns zero. 7 If two small firms exist, each earns revenue of $70. – If only one large firm exists. its revenue is $200. the other earns Zero. 7 If two large firms exist, each earns revenue of $90. – If one small and one large firm exist the small firm earns $40, while the large one earns 5160.
Answer the following: a) How many pure strategies are available for firm 1? Cl b) How many pure strategies are available for firm 2? D c) What is the sum of the firms’ profits in the subgame perfect equilibrium? Cl