2. Using a payoff matrix to determine the equilibrium outcome Suppose there are

Question

2. Using a payoff matrix to determine the equilibrium outcome Suppose there are only two firms that sell smartphones: Flashfone and Pictech. The following payoff matrix shows the profit (in millions of dollars) each company will earn, depending on whether it sets a high or low price for its phones. Pictech Pricing High Low High 11,112,18 Low 18,2 10,10 Flashfone Pricing For example, the lower-left cell shows that if Flashfone prices low and Pictech prices high, Flashfone will earn a profit of $18 million, and Pictech will firms. If Flashfone prices high, Pictech will make more profit if it chooses a price, and if Flashfone prices low, Pictech will make more profit if it chooses a price If Pictech prices high, Flashfone will make more profit if it chooses a price, and if Pictech prices low, Flashfone will make more profit if it chooses a price. Considering all of the information given, pricing low a dominant strategy for both Flashfone and Pictech.

Explanation / Answer

The game theory studies the strategic interaction among economic agents; there are two types of game. One is cooperative, another is non-cooperative. A non-cooperative game gives rise to prisoner’s dilemma. Here Prisoner’s dilemma is a game where pursuing a dominant strategy, that the strategy which is optimal regardless of opponents strategy, results in non-cooperation and make everyone worse off.

In this game:

Hence, if the firms do not collude they will choose dominant strategy and

If the firm collude and cooperates they both can be better off and have higher profit by setting price to high. This will ensure $11 profit for both instead of low pricing with profit of $10. Then non cooperation leads to choosing a dominant strategy equilibrium that makes every one worse off. Hence, the non-cooperation outcome is "Prisoners' dilemma". Hence the statement is

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