Question

A market has only two sellers. They are both trying to decide on a pricing strategy. If both firms charge a high price, then each firm will experience a 10% increase in profits. If both firms charge a low price, then each firm will experience a 5% decrease in profits. If Firm 1 charges a low price and Firm 2 charges a high price, then Firm 1 will experience a 6% increase in profits and Firm 2 will experience a 2% decrease in profits. If Firm 2 charges a low price and Firm 1 charges a high price, then Firm 2 will experience a 7% increase in profits and Firm 1 will experience a 3% decrease in profits.

(i) Construct a payoff matrix for this game.

(ii) Determine whether each firm has a dominant strategy and, if it does, identify the strategy.

(iii) Determine the optimal strategy for each firm.

(iv) Determine the Nash equilibrium.

(v) Is this a prisoners’ dilemma? How do you know?

Answer 1

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