Question

Two firms operate in the market for a certain hair care product. If they both have a large advertising budget, they each earn profit of $600. If they both have a low advertising budget, they each earn profit of $400. If one firm has a large advertising budget and the other low, then the high advertising firm earns profit of $700 while the low advertising firm earns profit of $200.

Write out the payoff matrix for this game.

Does either firm have a dominant strategy? Explain.

Identify all Nash equilibrium outcomes. Explain.

Does this game have the property of a prisoner’s dilemma? Explain.

Would this payoff matrix be consistent with a market for a luxury or a market for a necessity? Explain.

Answer 1

Ans

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Yes both have dominant strategy of high advertising as it leds to greater profits always

The Nash equilbrium is only high advertising by both firms. It results in maximum possible profit for both given the action of rival

No there is no prisoners dilemma involved. Here both reach easily maximum possible payoffs given action of rival

It is consistent with luxury since demand and hence profit increases with advertising In case of necessity the demand is not much affected