Answered: Imagine that two firms in two different…

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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Question

Imagine that two firms in two different countries want to bring a new product to
market. Due to economies of scale, if both firms do this, they will both lose £50
million. But if only one firm does this, it will gain £300 million.
(a) What is the best strategy for firm A, if firm B has not yet entered the market, and
why?
(b) Illustrate this with a game theory diagram, showing appropriate payouts.
(c) What is the welfare-maximising strategy for a government, and why?

Definition Definition Economic decision-making framework that analyzes how different players optimize their outcomes with given pay-offs corresponding to their available strategies. The assumptions of game theory are: The number of players or competitors are finite/limited; All participants are rational The rules of the game are known to every player; and Each participant has a finite set of actions. A common way in which game theory is presented as an ( m x n ) matrix in which m represents the strategies of row player and n represents the strategies of column player. There are several limitations of game theory: Many businesses have a large number of competitors, and selecting an optimal strategy in these circumstances is difficult; Real-life business operating environments are full of uncertainty and difficult to model as a game theory; and The assumption of rationality and utility maximization isn't always an accurate portrayal of human nature.

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