slide 11 Flashcards
what are the defining characteristics of an oligopoly
- small number of large firms
- control over price but interdependence (my actions affect my competitors and their actions affect me)
- natural or legal barriers prevent the entry of new firms
- there will be a temptation to cooperate / collude
since there is an interdependence what do firms need to utilize
strategy
what is the name for oligopolistic firms that collude and why would they want to collude
cartel.
you want to collude because will collusion you can increase profits, your goal is to act like a monopoly b/c with a monopoly like structure you maximize profit
what is game theory
a tool for studying strategic behavior. it considers the expected behavior of others and recognition of interdependence
what is a payoff matrix
a table that shows the payoffs for every possible action by each player for every possible action of the other player
what is the NASH equilibrium
if we assume both players are rational, the NASH equilibrium is the point where you do the best you can given what the opponent is doing & vice versa.
what is a dominant strategy
is is where regardless of what the other player does you will always choose the same strategy
in a one shot game, why is it that both players don’t choose the optimal choice that benefits the both of them
because there is no collusion parties are worse off, if we allowed repeated interaction
what happens to the market if there is a collusive agreement
there will be
- restriction of output
- prices will rise
- profits increase
where is maximum profit in an oligopoly
MC = MR (also the monopoly equalibrium)
if one firm maintains their collusion deal and the other cheats what happens to their profits
the cheater increases their economic profit P > ATC
complier incurs an economic loss
ATC > P
what happens to profit if both firms cheat
if both cheat, the quantity and price is back at a competitive level and they make zero economic profit
what is the game of chicken
its the first person to cave in will be the chicken, like the elementary version of chicken
describe the game of chicken in terms of economics
a firm will need to R&D to make more profit, but the technology developed cannot be patented. so the firm that spends money R&D will make less money than the firm that just used the technology after it’s been developed
how do you determine what the outcome will be if there are two equalibriums
you cannot, might as well flip a coin
what if we had a repeated duopoly game, how can you expect the game to change
in a repeated game, firms have the option to collude and make monopoly profit.
repeated actions also allows for punishment strategies to be introduced, which encourages firms to comply and achieve a cooperative equilibrium
what is the cooperative equilibrium
the equilibrium where colluding firms can make a monopoly profit
explain the tit-for-tat punishment strategy
one player will cooperate if the other player cooperated last period. if they cheated last period i will cheat this period.
explain the trigger punishment strategy
if you cooperate, ill cooperate. if you cheat i will play the nash equilibrium forever
why does the tit-for-tat punishment work
if you cheat last term, i will cheat next term. and you will be worse off since i cheated. if you cheat again I will also cheat again. You will comply the next periods because you know it is always better to collude. You will end up doing worse if you cheat
what is price wars
when firms continuously lower their prices to undercut each other. it can result from a tit-for-tat strategy
what is the difference between prisoners/chicken and a sequential game
in a sequential timing matters, so the results are reflected in a tree not a matrix
what is a contestable market
a market where firms can enter and leave easily so firms currently in the market face competition from the possibilities of new entrants. the firms in the market will need to decide on a price competitive enough to deter entry but enough to still make positive profit
what is limit price
when firms in the market sets the price at the highest level that still deters potential entrants out
who moves first in a sequential game
the largest firm, we move in size order
