Class 18-2010

# Class 18-2010 - Managerial Econ Class 18 Game Theory cont'd...

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11/12/2010 1 THE UNIVERSITY OF BRITISH COLUMBIA Managerial Econ: Class 18 Game Theory cont’d; Uncertainty 1. Game Theory Review Example 2. Threats, Commitments, and Entry Deterrence 3. Decision-Making Under Uncertainty 4. Probability 5. Expected Value 6. Variance and Standard Deviation 7. Attitudes Toward Risk THE UNIVERSITY OF BRITISH COLUMBIA Firm 1 7.5 Firm 2 112.50, 112.50 56.25, 112.50 0, 0 112.50, 56.25 125, 93.75 50, 75 93.75, 125 75, 50 100, 100 10 15 7.5 10 15 1. Clicker Question from last class a. In a simultaneous move static game the Nash equilibrium yields 112.5 for each firm. b. In a simultaneous move static game the Maximin solution yields 112.5 for each firm. c. If firm 1 goes first, the Nash equilibrium yields 112.5 for each firm. d. All of the above. e. None of the above.

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11/12/2010 2 THE UNIVERSITY OF BRITISH COLUMBIA 2. Threats, Commitments, Credibility and Entry Deterrence In the output game, Firm 1 gains an advantage if it can move first. In the static (simultaneous move) game, why wouldn’t firm 1 just announce that it will produce the high output level? Such a threat is not credible. It is an empty threat. Firm 2 could make the same threat. It is hard to predict what will happen. However, if Firm 1 actually produces the output first, then the threat is credible and there is only one solution. THE UNIVERSITY OF BRITISH COLUMBIA Entry Maintain Price Cut Price 4, 8 -4,6 0, 12 0,7 Entrant Enter Stay Out Incumbent Incumbent Maintain Price Cut Price The incumbent says: If you enter, I will charge a low price. This is not credible. If the entrant does enter, then the incumbent’s best action is to maintain price and earn 8 instead of cutting price (causing a price war) and earning 2. The first number is the payoff to the entrant.
11/12/2010 3 THE UNIVERSITY OF BRITISH COLUMBIA Entry Deterring Strategies What could an incumbent do to try to prevent entry? It could change the payoffs by building excess capacity or carrying high inventory. Maintain Price Cut Price 4, 5 -4,6 0, 9 0,7 Entrant Enter Stay Out Incumbent Incumbent Maintain Price Cut Price In this case the incumbent has an incentive to cut price (cause a price war) if entry occurs, so we expect the entrant to stay out and the incumbent gets 9. THE UNIVERSITY OF BRITISH COLUMBIA Subgame Perfection A Nash equilibrium that is based on actions at every stage being credible is “subgame perfect”. A solution obtained by backward induction is necessarily subgame perfect.

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## This note was uploaded on 01/19/2011 for the course COMMERCE 290 taught by Professor Brianogram during the Spring '09 term at UBC.

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Class 18-2010 - Managerial Econ Class 18 Game Theory cont'd...

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