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ECO100 - NOV 21 Prisoners' Dilenma, Monopolistic competition, Oligopoliy

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James Pesando

Oligopolist ● 1. If collude to form cartel (illegal - cannot be enforced), industry may earn monopoly profits. ● 2. If one firm has MR>MC, may “cheat”(by increasing output) and cartel may break down. 4.Prisoners’Dilemma;Game Theory:Application to Oligopoly Two firms, Oligopolist ● Firms might collude ● One firm might cheat ● Both firms might cheat Prisoners’ Dilemma (“Game”) ● Duopolists form cartel and agree to divide market output (hence profits) 50:50 ● Payoff Matrix - summarize the reward of different strategies If each produces one-half of monopoly Each has profit of 20 output If each produces two-thirds of monopoly Each has profit of 17 output (both “cheats”) If one produces one-half of monopoly First that produces one-half: Profit is 15 output and one produces two-thirds of Firm that produces two-thirds: Profit is 22 monopoly output ● Go through every possibility of action the other firm can take ● Strategies (possible) 1. Produce one-half monopoly output 2. Produce two-thirds monopoly output ● Prisoners’ Dilemma: Duopolists A’s Output A’s Output ½ Monopoly 2/3 Monopoly B’s Output ½ Monopoly A’s Profit: 20 A’s Profit: 22 B’s Profit: 20 B’s Profit: 15 B’s Output 2/3 Monopoly A’s Profit: 15 A’s Profit:17 B’s Profit: 22 B’s Profit: 17 ● Outcome 1. A and B each produce 2/3 monopoly output (dominant strategy) ■ For B, best strategy is to cheat no matter what A will do. ■ Same for A. 2. Cartel breaks down (Example:OPEC) ■ One off game 3. In repeat game, punishment strategies may lead to more cooperation ■ No way to enforce Public Policy (competition policy) ● Prevent oligopolist from colluding (typically, via “price fixing”) Fine Art Auctions: Oligopoly (Christie’s and Sotheby’s are 95% of the market) ● Earn revenues: buyer’s pay commission (20%) ○ Seller’s pay commission (10%) ● Art owner(seller): Force auction houses to compete. ○ Will Christie’s sell for less than 10% (say 8%) ○ If so, will Sotheby’s sell for less than 8% (say, 6%)
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