MBMC Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life.
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Transcript of MBMC Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life.
MB MC
Strategic Choice in Oligopoly, Monopolistic Competition,
and Everyday Life
Strategic Choice in Oligopoly, Monopolistic Competition,
and Everyday Life
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 2
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Thinking Strategically
InterdependenciesIn making choices, people must consider
the effect of their behavior on others.Imperfectly competitive firms may consider
how rivals will respond to price changes or new advertising.
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 3
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Using Game Theory toAnalyze Strategic Decisions
Basic Elements of a GameThe playersTheir strategiesThe payoffs
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 4
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
ExampleShould United Airlines spend more on
advertising?Note
The airline industry is an oligopoly with an undifferentiated product.
Using Game Theory toAnalyze Strategic Decisions
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 5
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Payoff Matrix for an Advertising Game
Raise adspending
Leave adspendingthe same
Raise adspending
Leave adspendingthe same
$5,500 for American$5,500 for American
$5,500 for United$5,500 for United
American’s Choices
United’s Choices
$2,000 for American$2,000 for American
$8,000 for United$8,000 for United
$6,000 for American$6,000 for American
$6,000 for United$6,000 for United
$8,000 for American$8,000 for American
$2,000 for United$2,000 for United
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 6
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Dominant StrategyOne that yields a higher payoff no matter
what the other players in a game choose
Using Game Theory toAnalyze Strategic Decisions
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 7
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Dominated StrategyAny other strategy available to a player
who has a dominant strategy
Using Game Theory toAnalyze Strategic Decisions
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 8
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Nash EquilibriumAny combination of strategies in which
each player’s strategy is her or his best choice, given the other player’s strategies
Using Game Theory toAnalyze Strategic Decisions
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 9
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Nash EquilibriumWhen each player has a dominant
strategy, equilibrium occurs when each player follows that strategy
Using Game Theory toAnalyze Strategic Decisions
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 10
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Nash EquilibriumThere can be an equilibrium when players
do not have a dominant strategy
Using Game Theory toAnalyze Strategic Decisions
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 11
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Theory of Games
ExampleShould American spend more on
advertising?Assume
United and American are the only carriers serving the Chicago – St. Louis market
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 12
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Equilibrium When One Player Lacks a Dominant Strategy
Raise adspending
Leave adspendingthe same
Raise adspending
Leave adspendingthe same
$4,000 for American$4,000 for American
$3,000 for United$3,000 for United
$3,000 for American$3,000 for American
$8,000 for United$8,000 for United
$2,000 for American$2,000 for American
$5,000 for United$5,000 for United
$5,000 for American$5,000 for American
$4,000 for United$4,000 for United
American’s Choices
United’s Choices
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 13
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
What Should United and American do if Their Payoff Matrix is Modified?
Raise adspending
Leave adspendingthe same
Raise adspending
Leave adspendingthe same
$8,000 for American$8,000 for American
$3,000 for United$3,000 for United
$5,000 for American$5,000 for American
$4,000 for United$4,000 for United
$2,000 for American$2,000 for American
$5,000 for United$5,000 for United
$4,000 for American$4,000 for American
$8,000 for United$8,000 for United
American’s Choices
United’s Choices
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 14
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Prisoners DilemmaA game in which each player has a
dominant strategy, and when each plays it, the resulting payoffs are smaller than if each had played a dominated strategy
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 15
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
ExampleShould the prisoners confess?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 16
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Payoff Matrix for a Prisoner’s Dilemma
Confess Remain Silent
Confess
RemainSilent
Jasper
Horace
5 years5 yearsfor eachfor each 20 years for Jasper20 years for Jasper
0 years for Horace0 years for Horace
1 year1 yearfor eachfor each0 years for Jasper0 years for Jasper
20 years for Horace20 years for Horace
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 17
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
ExerciseWhich of these games is a prisoner’s
dilemma?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 18
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Which of These GamesIs a Prisoner’s Dilemma?
Don’t Invest
Don’tInvest
12 for Chrysler12 for Chrysler10 for each10 for each 4 for GM4 for GM
GAME 1
Invest
5 for each5 for each4 for Chrysler4 for Chrysler
12 for GM12 for GM
Chrysler
GM
Invest
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 19
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Which of These GamesIs a Prisoner’s Dilemma?
GAME 2
Don’t Invest
Don’tInvest
Invest
12 for Chrysler12 for Chrysler
10 for each10 for each
4 for GM4 for GM
Chrysler
GM
Invest
5 for each5 for each
4 for Chrysler4 for Chrysler12 for GM12 for GM
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 20
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Economics of Cartels
Prisoner’s Dilemmas Confronting Imperfectly Competitive FirmsCartel
A coalition of firms that agrees to restrict output for the purpose of earning an economic profit
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 21
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Economic NaturalistWhy are cartel agreements notoriously
unstable?
The Economics of Cartels
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 22
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Market Demandfor Mineral Water
Pri
ce $
/bo
ttle
)
Bottles/day
Assume• 2 firms (Aquapure &
Mountain Spring• MC = 0• Cartel is formed & agree
to split output and profits
2,000
D
1.00
1,000
MR
2.00
Impact of Cartel• Q = 1,000 bottles/day• P = $1/bottle• Each firm makes $500/day
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 23
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Temptation to Violate a Cartel Agreement
Pri
ce $
/bo
ttle
)
Bottles/day
D
1.00
1,000 2,000
MR
2.00
1,100
0.90
Aquapure lowers P• P = $.90/bottle• Q = 1,100 bottles/day
Mountains Spring retaliates• P = $.90/bottle• Both firms split 1,100
bottles/day @ $.90• Profit = $495/day
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 24
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Payoff Matrix for a Cartel Agreement
Charge $1/bottle Charge $0.90/bottle
Charge$1/bottle
Charge$0.90/bottle
Mountain Spring
Aquapure
$990/day for $990/day for Mt. SpringMt. Spring
$0 for$0 forAquapureAquapure$500/day $500/day
for eachfor each
$0 for $0 for Mt. SpringMt. Spring
$990 for$990 forAquapureAquapure $495/day $495/day
for eachfor each
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 25
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Economic NaturalistWhen will the rival firms stop cutting
prices?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 26
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Tit-for-tat and the Repeated Prisoner’s DilemmaCooperation between players will increase
the payoff in a prisoner’s dilemma.There is a motive to enforce cooperation.
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 27
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Tit-for-tat strategy for repeated gamesTit-for-tat strategy
Players cooperate on the first move, then mimic their partner’s last move on each successive move
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 28
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Tit-for-tat strategy for repeated gamesTit-for-tat strategy requirements
Two playersA stable set of playersPlayers recall other player’s movesPlayers have a stake in future outcomes
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 29
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
QuestionWhy is the tit-for-tat strategy unsuccessful
in competitive, monopolistically competitive, and oligopolistic markets?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 30
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Economic NaturalistHow did Congress unwittingly solve the
television advertising dilemma confronting cigarette producers?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 31
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Cigarette Advertising as a Prisoner’s Dilemma
Advertise on TV Don’t advertise on TV
Advertise on TV
Don’tAdvertiseon TV
$5 million/yr$5 million/yrfor Philip Morrisfor Philip Morris
$10 million/yr$10 million/yr for eachfor each
$35 million/yr$35 million/yr for RJRfor RJR
Philip Morris
RJR
$20 million/yr$20 million/yr for eachfor each$35 million/yr$35 million/yr
for Philip Morrisfor Philip Morris
$5 million/yr$5 million/yr for RJRfor RJR
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 32
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Prisoner’s Dilemma
Economic NaturalistWhy do people shout at parties?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 33
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
Should Dodge build a hybrid viper?Dodge Viper and Chevrolet Corvette
compete for the domestic sports car market
Both know the other is considering a hybridIf both build the hybrid they each make $60
millionIf neither build they make $50 million
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 34
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
Should Dodge build a hybrid viper?If Chevrolet builds and Dodge does not,
Chevrolet will earn $80 million and Dodge $70 million.
If Dodge builds and Chevrolet does not, Dodge earns $80 million and Chevrolet $70 million.
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 35
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
Should Dodge build a hybrid viper?Does either have a dominant strategy?What will happen if Dodge gets to choose
first?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 36
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Advantage of Being Different
Offer hybrid Don’t offer hybrid
Dodge Viper
Chevrolet Corvette
Offer hybrid
Don’t offer hybrid
$60 million/yr$60 million/yrfor Dodgefor Dodge
$60 million/yr$60 million/yr for Chevroletfor Chevrolet
$70 million/yr$70 million/yrfor Dodgefor Dodge
$80 million/yr$80 million/yr for Chevroletfor Chevrolet
$80 million/yr$80 million/yrfor Dodgefor Dodge
$70 million/yr$70 million/yr for Chevroletfor Chevrolet
$50 million/yr$50 million/yrfor Dodgefor Dodge
$50 million/yr$50 million/yr for Chevroletfor Chevrolet
Is there aNash Equilibrium?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 37
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Decision Tree for Hybrid
A
Dodgedecides
Offer hybrid
Don’t offerhybrid
B
C
$50 million for Chevrolet$50 million for Dodge
Offerhybrid
Don’toffer
hybrid
Offerhybrid
Don’toffer
hybrid
Chevroletdecides
$80 million for Chevrolet$70 million for Dodge
$70 million for Chevrolet$80 million for Dodge
$60 million for Chevrolet$60 million for DodgeD
E
F
G
FinalOutcome
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 38
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
Credible Threats and PromisesCredible Threat
A threat to take an action that is in the threatener’s interest to carry out
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 39
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
What Do You Think?Why couldn’t Chevrolet deter Dodge from
offering a hybrid by threatening to offer a hybrid of its own, no matter what Dodge did?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 40
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
Credible PromiseA promise to take action that is in the
promiser’s interest to keep
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 41
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
Should a business owner open a remote office?Pay the manager $1,000Make an additional $1,000If the manager is dishonest, she can make
$500 more and cost the owner $500
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 42
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Decision Tree for the Remote Office Game
A
Owner does not open remote office
Manager manages honestly;owner gets $1,000,manager gets $1,000
Managerial candidatepromises to managehonestly
B
Owner opensremote office
C
Manager manages dishonestly;owner gets -$500,manager gets $1,500
Owner gets $0,manager gets $500 byworking elsewhere
Should a business owner open a remote office?Is the outcome an equilibrium?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 43
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Monopolist CompetitionWhen Location Matters
Why do we often see convenience stores located on adjacent street corners?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 44
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Monopolist CompetitionWhen Location Matters
Assume1 mile street with 1,200 shoppers evenly
distributedStore A is located at the West end of the
mile
QuestionWhere would you open a new store on the
mile?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 45
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Monopolist CompetitionWhen Location Matters
Differentiation by:Physical location
The choice to locate at B.
Location in time Timing of flight departuresTiming of film showings
Produce spaceSoft drinks
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 46
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Commitment Problems
Commitment ProblemA situation in which people cannot achieve
their goals because of an inability to make credible threats or promises
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 47
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Commitment DeviceA way of changing incentives so as to
make otherwise empty threats or promises credible
Commitment Problems
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 48
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Commitment ProblemsPrisoner’s dilemmaCartelsRemote office
Commitment Problems
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 49
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Commitment DevicesUnderworld code, omertaMilitary arms control agreementsTips for waiters
Commitment Problems
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 50
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
Games in Which Timing Matters
What do you think?Will Sylvester leave a tip when dining on
the road?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 51
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Strategic Role of Preferences
Game theory assumes that the goal of the players is to maximize their outcome.
In most games, players do not attain the best outcomes.
Altering psychological incentives may also improve the outcome of a game.
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 52
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
QuestionIn a moral society, will the business owner
open a remote office?
The Strategic Role of Preferences
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 53
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Remote Office Game with an Honest Manager
A
Owner does not open remote office
Manager manages honestly;owner gets $1,000,manager gets $1,000
Managerial candidatepromises to managehonestly
B
Owner opensremote office
C
Manager manages dishonestly;owner gets -$500,manager gets -$8,500
Owner gets $0,manager gets $500 byworking elsewhere
The value of dishonesty to the manager is $10,000
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 54
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Strategic Roleof Preferences
Are People Fundamentally Selfish?Do you tip at out-of town restaurants?What would be your first offer in the
ultimatum bargaining game?Would you refuse a lopsided offer?
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 55
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Strategic Roleof Preferences
Are People Fundamentally Selfish?If narrow self-interest is not the only motive
for making choices, then the other motives must be understood to predict and explain human behavior.
Chapter 11: Strategic Choice in Oligopoly, Monopolistic Competition, and Everyday Life
Slide 56
MB MC
Copyright c 2007 by The McGraw-HillCompanies, Inc. All rights reserved.
The Strategic Roleof Preferences
Preferences as Solutions to Commitment ProblemsConcerns about fairness, guilt, humor,
sympathy, etc. do influence the choices people make in strategic interactions.
Commitment to these preferences must be communicated for them to influence choices.