Firm 1 currently enjoys a monopoly, but Firm 2 is considering entering the market. If Firm 2 enters and Firm 1 keeps output low and prices high, its profits will fall by half and Firm 2 will enjoy a modest profit. Firm 1 threatens to increase capacity and output, which will drive prices and its profits lower, and cause Firm 2 to suffer a loss. In reaction to Firm 1s low price threat, Firm 2 will

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Firm 2 will not enter the market, because it understands that when Firm 1 expands capacity it will experience a profit loss.
     Firm 2 will enter the market, knowing that Firm 1s threat to invest in additional capacity and output is not credible..
     Firm 2 will not enter the market if Firm 1 immediately invests in additional capacity so that Firm 1 becomes profitable only when it produces at high levels, low prices prior to Firm 2 entering the market.
     Both 2 and 3.
asked Jun 2, 2013 in Economics by anonymous
    

1 Answer

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Both 2 and 3.
answered Jun 3, 2013 by Xyz ~Expert~ (3,650 points)

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