key term - Stackelberg Model

Definition

The Stackelberg model is a strategic model of oligopoly in which one firm, the leader, makes the first move by setting its output level, and then the other firms, the followers, respond by setting their own output levels. This model assumes that the leader has a first-mover advantage and can influence the decisions of the followers.

5 Must Know Facts For Your Next Test

1. In the Stackelberg model, the leader firm sets its output level first, and the follower firms then respond by setting their own output levels.
2. The leader firm has a first-mover advantage, which allows it to influence the decisions of the follower firms.
3. The Stackelberg model assumes that the follower firms have perfect information about the leader's output decision.
4. The leader firm's output decision is based on its knowledge of the follower firms' reaction function, which describes how the followers will respond to the leader's output.
5. The Stackelberg model predicts that the leader firm will produce a higher output and earn a higher profit than the follower firms.

Review Questions

• Explain how the Stackelberg model differs from the Cournot model in an oligopoly setting.
  • The key difference between the Stackelberg model and the Cournot model is the assumption of sequential decision-making. In the Cournot model, firms make their output decisions simultaneously, whereas in the Stackelberg model, one firm (the leader) makes its output decision first, and the other firms (the followers) then respond by setting their own output levels. This sequential decision-making process gives the leader firm a first-mover advantage, allowing it to influence the decisions of the follower firms and potentially earn a higher profit.
• Analyze the strategic implications of the Stackelberg model for the leader and follower firms in an oligopoly.
  • In the Stackelberg model, the leader firm has a strategic advantage because it can set its output level first, knowing that the follower firms will respond by setting their own output levels. This allows the leader to maximize its profit by choosing the optimal output level, taking into account the follower firms' reaction function. The follower firms, on the other hand, must adjust their output decisions based on the leader's choice, which limits their ability to maximize their own profits. This dynamic creates an asymmetry in the market, with the leader firm potentially earning a higher profit than the follower firms.
• Evaluate the conditions under which the Stackelberg model is a more appropriate representation of an oligopoly market than the Cournot model.
  • The Stackelberg model is more appropriate when one firm has a clear first-mover advantage, such as through technological superiority, access to resources, or brand recognition. In such cases, the leader firm can credibly commit to a certain output level, and the follower firms will respond accordingly. This is in contrast to the Cournot model, which assumes simultaneous decision-making and does not account for the potential asymmetry in the market. Additionally, the Stackelberg model may be more applicable in markets where there is a clear market leader, or in situations where the leader firm has superior information or bargaining power compared to the follower firms.

Related terms

Oligopoly:

A market structure in which a small number of firms compete with one another, and their decisions interdependent.

Nash Equilibrium:

A situation in which each player's strategy is the best response to the strategies of the other players.

First-Mover Advantage: The competitive advantage gained by the first significant firm to enter a market and become established before other competitors.