Consider what the addition of a third firm will do to the mar ket.
There are two effects to consider when the third firm enters the market.
The capacity to provide cell phone service will increase if the third firm builds a cell tower.
Firm A is in a store.
It is one of the most popular clothing stores in the country.
It faces intense price competition and competes with many rivals.
Firm B works in the airline industry.
Is an airline a good example of barriers to entry?
It is the only restaurant in the area.
People drive from far away to eat there.
Firm A sells clothing, a product with many competing brands.
The firm has little market power because of the intense competition.
Firm A is a player in the market.
It isn't an oligopolist.
Firm B has a lot of market power.
Smaller airlines are oligopolists because barriers to entry prevent new carriers from securing gate space.
Firm C is a monopolist.
It is the only place to eat in the isolated community.
It isn't an oligopolist.
The price effect and output effect make it difficult to maintain a monopoly.
As the number of firms grows, each individual firm becomes less concerned about its impact on the overall price, because any price above marginal cost creates a profit.
Individual firms are more willing to lower prices because doing so creates a large output effect for the individual firm and only a small price effect in the market.
Some firms are larger than others.
Smaller and larger firms in the market react differently to the effects of price and output.
Increased output at smaller firms will have a negligible impact on overall prices because they represent only a tiny fraction of the market supply.
For firms with a large market share, the same is not true.
The overall amount supplied in the market will change as a result of decisions at these firms.
The decisions of one firm affect other firms.
The economists use a game called ory to determine what level of cooperation is most likely to occur.
The payoff matrix shows the players, strategies, and payoffs of the game.
It is assumed that each player is doing the same thing.
The prisoner's dilemma is an example from game theory that helps us understand how dominant strategies often frame short- run decisions.
The idea of the dominant strategy will be used to explain why oligopolists choose to advertise.
We will argue that the dominant strategy in a game can be overcome through repeated interactions.
The earnings of the other rivals can be affected by a rival's business choices.
The dilemma is named after a famous scenario created by Al Tucker after World War II.
Two prisoners are being questioned separately about a crime they both participated in, and each is offered a plea bargain to testify against the other.
Both suspects will have to spend time in jail if they refuse to cooperate with the authorities.
If one of them cooperates and the other doesn't, the police will give you full immunity.
Each suspect has an incentive to betray the other.
If they both confess, they will spend more time in jail than if they stayed quiet.
The payoff for cooperating with the authori occurs when the decision ties more attractive than the result of keeping quiet.
The white box is in the upper left outcomes.
If one suspect testifies while his partner remains quiet, he goes free and his partner gets 25 years in jail.
If they keep quiet, they will each get a year in jail.
The two suspects know that if they stay quiet for 25 years in jail, they will only spend a year in jail.
The interrogation process changes the incentives that each party faces.
Let's start with Tony Montana's outcomes.
Tony will get 10 years in jail if Ribera testifies.
Tony will go free if Tony keeps quiet.
Tony might decide to keep quiet.
Tony can expect 25 years in jail if he testifies.
Tony will get a year in jail if he keeps quiet.
Tony is always better off testifying than not.
If his partner testifies and he testifies, he gets 10 years in jail as opposed to 25 if he keeps quiet.
Tony goes free if his partner keeps quiet and he testifies, as opposed to spending a year in jail if he also keeps quiet.
A player will always be at work in the case of our two suspects.
They know that if they don't respect one another, they will spend a year in jail.
The dilemma arises because his opponent is more likely to testify and get 10 years in jail.
The choice is obvious.
After they are separated, neither suspect can watch the other.
Once each suspect knows that his partner will save jail time if he testifies, he knows that the incentives are not in favor of keeping quiet.
The Nash equilibrium is the dominant strategy.
The best response is to testify if the other will testify.
Without coordination, neither has an incentive to give testimony.
The prisoner's dilemma shows that cooperation can be hard to achieve.
We will use game theory to evaluate the outcome of our cell phone duopoly example to get a better sense of the incentives that the oligopolists face.
The payoff matrix in Figure 13.2 shows the revenue that AT- Phone and Horizon could earn at various production levels.
The AT- Phone does.
It can earn between $27,000 and $22,500 at a low production level.
The same reasoning applies to AT- Phone.
If you look at the right- hand boxes, you will see that AT- Phone can make between $30,000 and $24,000.
It can earn between $27,000 and $22,500 at a low production level.
The production levels are high.
The two companies have an incentive to serve more customers.
A high level of production leads to a Nash equilibrium.
The companies can make $27,000 if they operate as a Cartel.
Two murder suspects are being questioned by the district attorney's office.
The detective told one of the suspects that his partner in the other room was rolling over because he was cooperating.
Adding pressure on the suspect is the interroga ally talking and the partner getting a lighter tion method.
oligopolists are like monopolistic competitors in that they sell differentiated products.
In markets with a differentiated product, advertising is commonplace.
Advertising can create a contest between firms trying to gain customers in the case of an oligopoly.
The result may be a huge increase in advertising budgets and little to no net gain of customers.
It is easier said than done.
Coca- Cola is the larger of the two firms, accounting for 42% of the soft drink market.
Both companies spend hundreds of millions of dollars on advertising.
Let's look at the dominant strategy to see if they gain anything from spending so much on advertising.
In the absence of cooperation, each firm will choose to advertise, because the payoffs under advertising exceed those of not advertising.
Each firm makes a $100 million profit when it advertises.
If neither firm advertised, the $125 million profit each could earn would be the worst outcome.
Most advertising expenditures end up canceling each other out and costing the companies millions of dollars, as the dilemma is that each firm needs to advertise to market its product and retain its customer base.
The two companies have a dominant strategy to advertise.
Each company makes $25 million more profit by advertising.
American Airlines and Delta Airlines were once in a prisoner's dilemma.
When Delta wanted to expand its share of the lucrative Dallas-to-Chicago route, American was the dominant carrier.
Delta slashed the fare on that route to attract new travelers.
American offered a fare cut on the Dallas-to-Atlanta route.
It would have been better if fares were not discounted.
The idea that companies benefit from spending less on advertising is similar to warfare.
Whenever war ends, countries benefit from a peace dividend.
The Cold War between the Soviet Union and the United States is one of the best examples.
Both countries had amassed thousands of nuclear warheads by the time the Cold War ended.
The economic pressure on each country to keep up with the other was enormous.
During the height of the Cold War, each country had a prisoner's dilemma in which spending more in an arms race was the main strategy.
The Cold War created a prisoner's dilemma for the United States because they were able to spend less money than the Soviet Union.
The U.S. military budget fell from 6.5% to 3.5% of GDP in the 1990s as the nation reaped a peace dividend.
The prisoner's dilemma can't account for military spending after the terrorist attacks of 2001.
Game theory can be used to understand strategic decision making in noncooperative environments.
The possible long- run benefits of cooperation are not considered by the dominant strategy.
Robert decided to look at the choices that participants make in a long run setting.
He invited scholars to submit strategies for securing points in a prisoner's dilemma tournament in a computer simulation.
The results were scored after all the submissions were collected.
After each simulation, the weakest strategy was eliminated and the rest of the strategies were used.
The best strategy remained until the evolutionary approach ended.
A participants mimicking a strategy is one in which you do whatever your opponent does.
If your opponent breaks the agreement, you also break it.
If the decision with repayment opponent behaves well, then you should do the same.
The genius behind it is that it encourages cooperation.
The companies know that if they try to start a new advertising campaign the other firm will respond immediately.
Any attempt to exploit the dominant strategy of advertising will fail because the companies react to each other's moves in kind.
Tit- for- tat makes it less desirable to advertise.
The payoffs with advertising are more than those with not advertising, so advertising is still a dominant strategy in the short run.
If the rival responds in kind, the firm that advertises could earn $25 million more in the short run, but in every subsequent round it should make $100 million.
Coke and PepsiCo don't trust each other enough to earn a dividend from an advertising truce.
The prisoner's dilemma shows how difficult cooperation is in the short run.
For example, scam artists and shady companies take advantage of short- run opportunities that can't last because they don't have long-term relationships with businesses and people.
You know that the other side is invested in the relationship.
The strategy works well under these circumstances.
At the end of the movie, the Joker tells the passengers that if they try to escape, the bomb will explode earlier.
The passen detonator button is attached to the other ferry and each ferry can save itself by hitting a scene.
Everyone becomes aware of the dominant position between the two boats.
The lives of those on the civilian boat are worth more than the lives of those on the other boat.
The civilians and prisoners react to this by having one of the ferries blow up the other information.