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3. Breakdown of a cartel agreement Consider a town in which only two residents, lake and Latasha, own wells that produce water safe for drinking. Jake and tatasha can purnp and sell as much water as they want at no cost. For thern, total revenue equals profit. The following table shows the town's demand schedule for water. Suppose Jake and Latasha form a cartel and behave as a monopolist. The profit-maximiaing price is is gallons. As part of their cartel agreement, Jake and Latasha agree to split production equally. Therefore, Jake's profit is and Latasha's profit is Suppose that Jake and Latasha have been successfully operating as a cartel. They each charge the monopoly price and sell half of the monopoly quantity. Then one night before going to sleep, take says to himself, "Latasha and 1 aren't the best of friends anyway. If I increase my production to 35 gallons more than the cartel amount, I can increase my profit even though her profit goes down. I will do that starting tomorrow." After lake implements his new plan, the price of water per gallon, Given Latasha and Jake's production levels, Jake's profit becomes and Latasha's profit becomes Because Jake has deviated from the cartel agreement and increased his output of water to 35 gallons more than the cartel amount, Latasha decides that she will also increase her production to 35 gallons more than the cartel amount. After Latasha increases her-production, Jake's profit becomes , Latasha's profit becomes and total profit (the sum of the profits of lake and Latasha) is now True or False: Based on the fact that both Jake and Latasha increased production from the initial cartel quantity. you know that the output effect was larger than the price effect at that quantity. True False Note that Jake and Latasha started by behaving cooperatively. However, ance lake decided to cheat, tatasta decided to cheat as well. In other words, Latasha's output decisions are based on lake's actions. This behavior is an example of

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