Suppose a small town has only two firms (firm1 and firm 2) selling the same product. Each firm can either set a high price (H) or a low price (L) for its product. The payoff matrix below displays the profits per day given the combination of prices for both firms. The first entry shows firm1’s profits while the second entry shows the second firm’s profits. The information displayed in the playoff matrix are known by both firms. Firm 2 High price Low Price Firm 1 High price $210; $220 $80; $260 Low Price $240; $160 $150; $140 Does each firm have a dominant strategy to set a high price, a dominant strategy to set a low price, or does it have no dominant strategy? In other words, find the dominant strategy of each firm, if it exists. Explain your answer. Assuming that the two firms do not cooperate to set prices, what will be the profits of each firm? The local authorities of the small town are concerned about the high prices of the product. As a result, they decide to subsidize the product by giving $40 to each firm that decides to set a low price for its product. What’s the new payoff matrix after subsidy?

Economics:

10th Edition

ISBN:9781285859460

Author:BOYES, William

Publisher:BOYES, William

Chapter26: Monopolistic Competition And Oligopoly

Section: Chapter Questions

Problem 13E

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Problem II.

Suppose a small town has only two firms (firm1 and firm 2) selling the same product. Each firm can either set a high price (H) or a low price (L) for its product. The payoff matrix below displays the profits per day given the combination of prices for both firms. The first entry shows firm1’s profits while the second entry shows the second firm’s profits. The information displayed in the playoff matrix are known by both firms.


		Firm 2
		High price	Low Price
Firm 1	High price	$210; $220	$80; $260
Low Price	$240; $160	$150; $140

Does each firm have a dominant strategy to set a high price, a dominant strategy to set a low price, or does it have no dominant strategy? In other words, find the dominant strategy of each firm, if it exists. Explain your answer.
Assuming that the two firms do not cooperate to set prices, what will be the profits of each firm?
The local authorities of the small town are concerned about the high prices of the product. As a result, they decide to subsidize the product by giving $40 to each firm that decides to set a low price for its product. What’s the new payoff matrix after subsidy?

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