Consider the following game. E (entrant) is considering entering a market that currently has a single incumbent (firm I). If it does so (by playing "in"), the incumbent can respond in one of two ways: it can either accommodate the entrant, giving up some of its sales but causing no change in the market price, or it can fight the entrant, engaging in a costly market war that dramatically lowers the market price. The extensive form of this game is depicted below Firm E Out In Firm I (Ug =0) U,=2 Fight/ Accommodate (U=-3) U, =-1

Consider the following game. E (entrant) is considering entering a market that currently has a single incumbent (firm I). If it does so (by playing "in"), the incumbent can respond in one of two ways: it can either accommodate the entrant, giving up some of its sales but causing no change in the market price, or it can fight the entrant, engaging in a costly market war that dramatically lowers the market price. The extensive form of this game is depicted below Firm E Out In Firm I (Ug =0) U,=2 Fight/ Accommodate (U=-3) U, =-1

Microeconomic Theory

12th Edition

ISBN:9781337517942

Author:NICHOLSON

Publisher:NICHOLSON

Chapter15: Imperfect Competition

Section: Chapter Questions

Problem 15.5P

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Consider the following entry game: Here, firm B is an existing firm in the market, and firm A is a potential entrant. Firm A must decide whether to enter the market (play "enter") or stay out of the market (play "not enter"). If firm A decides to enter the market, firm B must decide whether to engage in a price war (play "hard"), or not (play "soft"). By playing "hard," firm B ensures that firm A makes a loss of $2 million, but firm B only makes $2 million in profits. On the other hand, if firm B plays "soft," the new entrant takes half of the market, and each firm earns profits of $4 million. If firm A stays out, it earns zero while firm B earns $8 million. Which of the following are Nash equilibrium strategies? (not enter, hard) and (enter, soft) (enter, soft) and (not enter, soft) (enter, hard) and (not enter, soft) (enter, hard) and (not enter, hard)
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Firm A Firm B Low Price High Price Low Price (2, 2) (10, −8) High Price (−8, 10) (15, 15) Suppose the game is infinitely repeated, and the interest rate is 10 percent. The firms are allowed to collude and make joint decisions. Both firms agree to charge a high price, provided no player has charged a low price in the past. This collusive outcome will be implemented with a trigger strategy that states that if any firm cheats (by charging a low price), then the agreement is no longer valid and each firm may make their own independent decisions. Will the trigger strategy be effective in implementing the collusive agreement? Please explain and show all necessary calculations.
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