Question

2. Suppose that two oligopolistic retail chains are considering opening a new sales outlet in a particular town. The changes to each firm's profits, depending on the actions taken, are given in the following payoff matrix. If a chain does not open a new outlet, it eams no addition to profits. If one of the chains is the only one to open an outlet, it makes high additional profits. If they both open outlets, they have to split the available market, and they make only more moderate additional profits. Firm 2's Options No New Outlet New Outlet moderate profit no profit New Outlet moderate profit high profit Firm 1's Options high profit no profit No New Outlet no profit no profit a. If Firm 1 decides to open a new outlet, but Firm 2 does not open a new outlet, how much additional profit does each firm make? b. If Firm 1 decides to open a new outlet, what is the worst that can happen to it? If Firm 1 decides not to open a new outlet, what is the worst that can happen to it? Which option, then, should Firm 1 choose, if it wants to make the choice that leaves it best off, regard- less of what the other form does? C. If the firms are noncooperative and each firm makes the choice that will leave it best off regardless of the other's choice, what will the outcome be? d. Is this like the prisoner's dilemma," in which both parties could get a better outcome by communicating and cooperating? e. Now suppose that each firm is thinking of opening new outlets in a number of towns, and each town has a payoff matrix similar to this one. Would there be advantages in having the two chains communicate and cooperate in this case? If they decide to collude, what form do you think their collusion might take?

Answer 1

The columns in the table represent the actions for the Firm 1 while rows represents the actions for the Firm 2.

(a) :- If Firm 1 decides to open a new outlet, but Firm 2 does not open a new outlet, how much additional profit does each firm make?

Firm 1 makes higher profit while firm 2 incurs no profit if firm 1 decides to open new outlet and firm 2 decides not to open new outlet.

(b) :- If Firm 1 decides to open a new outlet, what is the worst that can happen to it? If Firm 1 decides not to open a new outlet, what is the worst that can happen to it? Which option, then, should Firm 1 choose, if it wants to make the choice that leaves it best off, regardless of what the other firm does?

If firm 1 decides to open another outlet then the worst that could transpire would be that it's profit would lessen and it would gain possibly moderate profits if firm 2 decides to open new outlet because the profit would be separated between the two firms.

In case firm 1 decides not to open another outlet then the worst could occur for both the actions of firm 2 where firm 1 doesn't procure any profit. It doesn't make any difference what firm 2 does firm 1 will win no profit in both of the situations

In such case, the best decision of firm 1 is choose to open another outlet where in any event there it can acquire moderate to higher profits than if it decides not to open another outlet where there is no scope for profit for firm 1. Choosing to open another outlet would leave the firm best off regardless of what the firm 2 decides.

(c) :- If the firms are noncooperative and each firm makes the choice that will leave it best off regardless of the other's choice, what will the outcome be?

If firms become uncooperative then the equilibrium will be for firm 1 opens new outlet and furthermore firm 2 opens new outlet where them two split the profits from the market.

(d) :- Is this like the “prisoner's dilemma,” in which both parties could get a better outcome by com- municating and cooperating?

This is not a prisoner's dilemma because firm 1 has a dominant strategy of choosing to set another outlet and likewise firm 2 has the dominant strategy of choosing to set another outlet. Both the firms would want to play their strengths that is the dominant strategy which overpowers the other accessible strategy.

(e) :- Now suppose that each firm is thinking of open- ing new outlets in a number of towns, and each town has a payoff matrix similar to this one. Would there be advantages in having the two chains communicate and cooperate in this case? If they decide to collude, what form do you think their collusion might take?

There are two firms so they can plot to frame a duopoly - a market structure with two sellers and huge number of buyers. The firms could win preferred profits from collusion over they can exclusively in the market.