Answer to Question #153718 in Microeconomics for nil

Question

Explain what a prisoner’s dilemma is and relate your explanation to the situation that the members of an oligopoly may face.

Answer 1

A prisoner’s dilemma is this: two robbers, Dave and Henry, have been arrested and are being interrogated in separate rooms. Each robber is faced with the choice:

1) to cooperate with his accomplice and remain silent;

2) remain silent;

3) testify for the prosecution. 

 If they both co-operate and remain silent, then each ribber will get one year in jail. (2 years total). If one testifies and the other does not, then the one who testifies will go free and the other will get three years (0 years for the one who defects + 3 for the one convicted = 3 years total). However, if both testify against the other, each will get two years in jail for being partly responsible for the robbery (4 years total). 

 The paradox of the prisoner’s dilemma is this: both robbers can minimize the total jail time that the two of them will do only if they both co-operate (2 years total), but the incentives that they each face separately will always drive them each to defect and end up doing the maximum total jail time between the two of them (4 years total).

The prisoner’s dilemma in oligopoly shows why two individuals might not cooperate, even if it is collectively in their best interest to do so. Similar to the prisoner’s dilemma scenario, cooperation is difficult to maintain in an oligopoly because cooperation is not in the best interest of the individual players. However, the collective outcome would be improved if firms cooperated, and were thus able to maintain low production, high prices, and monopoly profits.