Question

Q) There are two firms in the Waves, Muscat, Cyber Space pvt. (CS) and IT Solutions (ITS). They collude to share the market equally. They jointly set a monopoly price and split the quantity demanded at that price. Here are their options:

              i.    They continue to cooperate (no cheating) and make $15 million each in profits.

            ii.    One firm cheats and the other does not. The firm that cheats makes a profit

                    of $20 million whereas the firm that doesn't makes a profit of $10 million.

           iii.    They both cheat and each firm makes a profit of $8 million.

a.     Construct a payoff matrix for these two firms.

b.     How does this situation relate to the prisoner's dilemma?

c.     If each firm acted noncooperatively, how much profit would each make?

d.    Are the firms better off colluding (with no cheating) or competing? Explain.

Answer 1