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506 The discussion requires a minimum of 300 words, 3 scholarly sources, including the textbook. Make sure that you use APA style with your references. Under no circumstances use any direct quotes. Any directly quoted or copied material will result in a zero for the assignment. Let’s be sure to write it in own work 100\% and give appropriately when using someone’s else work. Reference for textbook attached: Thomas, C. R., & Maurice, S. C. (2010). Managerial economics: Foundations of business analysis and strategy (10th ed.). New York: McGraw-Hill/Irwin. 1 Thomas Schelling, an expert on nuclear strategy and arms control, observed in his book The Strategy of Conflict, The power to constrain an adversary depends upon the power to bind oneself. Explain this statement using the concept of strategic commitment. Use an example from either your own business experience or economics-related research in your explanation. 1,500 word count and there is a total of 8 questions each (not including in-text citation and references as the word count), a minimum of 4 scholarly sources are required in APA format. For the 4 scholarly sources, one from the textbook that’s posted below and the other two from an outside source . Let’s be sure to write it in own work 100\% and give appropriately when using someone’s else work. Under no circumstances use any direct quotes. Any directly quoted or copied material will result in a zero for the assignment. Reference for textbook attached: Thomas, C. R., & Maurice, S. C. (2010). Managerial economics: Foundations of business analysis and strategy (10th ed.). New York: McGraw-Hill/Irwin. Hints 1. The instructions that mention the bold type and regular type for the game on the Unit 7 Complete are incorrect. As you may have determined already, Tampa is in regular type and St. Petersburg is in bold. 2. The first part of your Unit 7 Complete is a game very similar to the one you solved for Unit 6. This assignment will go to the next step of Game Theory where you will identify the Nash Equilibrium. Keep in mind that the Nash Equilibrium will be the strategy in which neither firm can be made better off by moving. There is a document under Course Materials to walk you through this part of the assignment. 3. The second part of the assignment will ask you to analyze a situation in which cheating is a possibility. You will need to calculate the payoffs for each situation, but it has been simplified with an r=0. This means that you do not have to account for time. In other words, you do not have to worry about the exponent. General Instructions The Tampa Tribune and the St. Petersburg Times compete for readers in the Tampa Bay market for newspapers. Recently, both newspapers considered changing the prices they charge for their Sunday editions. Suppose they considered the following payoff table for making a simultaneous decision to charge either a low price of $0.50 or a high price of $1.00. Tampa’s profits are shown in bold. St. Petersburg’s profits are in regular type. For questions 1 – 10, choose the correct answer to fill in the blanks. Use the suggested words in parentheses after each blank. A detailed explanation must be given to defend each choice. Tampa Tribune Low Price High Price A. B. Low price $120,000 $54,000 St Pete Times $100,000 $120,000 C. D. High Price $90,000 $88,000 $54,000 $90,000 1 Tampa Tribunes dominant strategy is ____________ (low price, high price, it has no dominant strategy). 2 St. Petersburg Times dominant strategy is ____________ (low price, high price, it has no dominant strategy). 3 Tampa Tribunes dominated strategy is ____________ (low price, high price, it has no dominant strategy). 4 St. Petersburg Times dominated strategy is ____________ (low price, high price, it has no dominant strategy). 5 This newspaper pricing decision ________ (is, is not) a Prisoners Dilemma. 6 Is there a Nash Equilibrium in this game? If so, which cell(s) is/are the Nash? Is/are the Nash Dominant Strategy Equilibrium? 7 Which cell(s) is/are strategically stable? Use the following game to answer questions 8-10. Be sure to show all of your math step-by-step. Alcoa and Kaiser, duopolists in the market for primary aluminum ingot, choose prices of their 500 foot rolls of sheet aluminum on the first day of the month. The following payoff table shows their monthly payoffs resulting from the pricing decisions they can make. Alcoa High price Low price Kaiser High price A $400, $500 B $175, $575 Low price C $525, $200 D $273, $250 Suppose Alcoa and Kaiser repeat their pricing decision on the first day of every month. Suppose they have been cooperating for the past few months, but now the manager at Kaiser is trying to decide whether to cheat or to continue cooperating. Kaiser’s manager believes Kaiser can get away with cheating for two months, but he also believes that Kaiser would be punished for the next two months after cheating. After punishment, Kaiser’s manager expects the two firms would return to cooperation. Kaiser’s manager ignores the time-value of money and does not discount future benefits or costs. 8 What is the monthly gain to Kaiser from cheating? What is the present value of the benefit from cheating for the two months of cheating? 9 What is the monthly cost of punishment to Kaiser? What is the pres­ent value of the cost of cheating for the two months of punishment? 10 Will Kaiser cooperate or cheat? Explain. 11 Suppose you were asked to manage a golf course that was currently charging a uniform price. Would you suggest that the course continue with this price plan or switch to a two-part pricing plan? Explain your decision and how you would choose the optimal price. mba_506_unit_7.pdf Unformatted Attachment Preview Chapter 13 Strategic Decision Making in Oligopoly Markets R I C A R D , After reading this chapter, you will be able to: 13.1 Employ concepts of dominant strategies, dominated strategies, Nash A equilibrium, and best-response curves to make simultaneous decisions. D 13.2 Employ the roll-back method to make sequential decisions, determine existence R advantages, and employ credible commitments to of first- or second-mover gain first- or second-mover advantage. I 13.3 Understand and explain E why cooperation can sometimes be achieved when decisions are repeated over time and discuss four types of facilitating practices N outcomes. for reaching cooperative N but not impossible, to create strategic barriers to 13.4 Explain why it is difficult, entry by either limit pricing or capacity expansion. E W 1 e are now going to address some new types of business decision-­making problems that 9arise when just a few firms produce most or all of the total market output. When the number of firms competing in a market 0 is small, any one firm’s pricing policy will have a significant effect on sales of 2 other firms in the market. Indeed, in markets where a relatively small number of firms compete, every kindTof decision affecting any one firm’s profit—such as decisions about pricing, output, and advertising as well as decisions about expanding S production facilities or increasing spending on research and development—also affects profits of every other firm in the market. The profit earned by each firm in a market having only a few sellers depends on decisions made by every other firm competing in the same market, and so profits of all firms are interdependent. 509 tho21901_ch13_509-574.indd 509 8/11/15 5:09 PM 510  C H A P T E R 13   Strategic Decision Making in Oligopoly Markets Consider these examples of rival firms whose sales, and consequently profits, are interdependent: ■■ ■■ ■■ American Airlines might be debating whether to reduce fares on all its European flights this summer. The reductions could substantially increase its profitable vacation-travel business. But if Delta, United, and other large overseas carriers match the reductions, a costly fare war could result, causing losses for all. Coca-Cola may be preparing an expensive new advertising campaign. Its advertising agency says the new campaign should be extremely effective. But R how will Pepsi react? Will it respond with an even more expensive advertising campaign of its own, or will it Icontinue as is? Pepsi’s response will have a huge effect on the profitability of Coca-Cola’s decision. At a much smaller marketing C level, Joe’s Pizza Express, a successful local restaurant in the downtown business A district, wants to open a new restaurant in a recently developed suburban area. But will Pizza Hut or Domino’s also come R into the new suburb, which, for the next several years, will probably not be Dthan one pizza place? During this period, Joe large enough to support more could lose a lot of money. , strategic behavior Actions taken by firms to plan for and react to competition from rival firms. oligopoly A market consisting of a few relatively large firms, each with a substantial share of the market and all recognize their interdependence. tho21901_ch13_509-574.indd 510 These types of business decisions differ substantially from the decision-making processes developed in previous chapters in which managers took price or demand as given and did not need to consider A the reactions of rival managers when making decisions. In these examples, managers must make decisions knowing that their D decisions will affect the sales and profitability of their rivals and that their rivals will R then react to their decisions. Depending on how their rivals react, their own sales and profitability will then be affected. However, these managers do not know what I their rivals will actually do. To make the best decisions, even though they almost never know for sure what theirEcompetitors’ reactions will be, these managers must “get into the heads” of their N rival managers to make predictions or conjectures about their reactions. N how to anticipate the actions and reactions Successful managers must learn of other firms in their markets. E In this chapter we will show you how successfully predicting a rival’s reaction requires managers to assume their rivals will always make those decisions that are likely to be the most profitable ones for them given the decisions they expect 1 their rivals to make. Interdependence, then, requires strategic behavior. Strategic behavior consists of the actions taken by firms 9 and any actions that firms can convincingly threaten to take, to plan for, and react to, the actions of competitors. Knowing about and anticipating potential moves 0 and countermoves of other firms is of critical importance to managers in markets 2 where firms’ sales and profits are interdependent. T oligopoly in reference to a market in which Economists generally use the term a few relatively large firms have moderate to substantial market power and, what S is more important, they recognize their ­interdependence. Each firm knows that its actions or changes will have an effect on other firms and that the other firms will, in response, take actions or make changes that will affect its sales. But no firm is really sure how the other firms will react. 8/11/15 5:09 PM C H A P T E R 13   Strategic Decision Making in Oligopoly Markets   511 This scenario applies to the previous example in which American Airlines considered how its rivals would react before it decided to reduce fares. Coca-Cola didn’t know what Pepsi would do if it introduced a new advertising campaign or what the effect of Pepsi’s reaction would be. The owner of Joe’s Pizza Express considered what the large pizza chains would do if Pizza Express entered the new suburb. We will devote this chapter to analyzing how managers of firms operating in oligopoly markets can make decisions when they are uncertain about the reaction of rivals; yet these reactions affect their own sales and profits and so must be considered in reaching R decisions. We can now summarize in a principle the problem of interdependence in oligopoly. I Principle Interdependence of firms’ profits, the distinguishing characteristic of oligopoly markets, arises C is small enough that every firm’s price and output decision affects the when the number of firms in a market demand and marginal revenue conditions of every other firm in the market. A Now try Technical Problem 1. 13.1 R in this chapter is designed to introduce you to and The discussion of oligopoly give you some insight into D the way managers of firms in oligopoly markets make decisions. As you will see, the study of strategic behavior is similar to the study of players participating in a, game of strategy, such as chess, poker, bridge, or checkers. This is why this important area of economic analysis is called “game theory.” In this chapter, we will use models of game theory to show how managers of oligopoly firms can try toAget into the heads of their rivals to make the most profitable decisions for themselves. D You will see that strategic decision making in oligopoly markets frequently results in a situation in which each firm makes the best R decision for itself given the decisions it expects its rivals will make, but this kind of “noncooperative” decision I making leads to lower profits for all firms. Noncooperative oligopoly outcomes are generally good for consumers but bad for the firms E that earn lower profits as a consequence. We also examine someN ways in which cooperative oligopoly decisions may arise. When you finish this chapter, N you will understand why oligopoly firms may wish to make decisions cooperatively and how they can sometimes, but certainly not E in making decisions. We must warn you at the outset always, achieve cooperation of this chapter that many forms of overt or explicit cooperation, also called “collusion” or “price-fixing” by legal authorities, are illegal in the United States and in 1 example, the CEO of American Airlines could call the many other countries. For CEO of Delta and work out 9 a pricing agreement between the two firms. But such price fixing is illegal in the United States, and business executives have been fined 0 just that. We will show you how cooperative outcomes and sent to prison for doing can sometimes be achieved 2 in oligopoly markets without resorting to illegal practices and why price-fixing agreements generally do not last very long in any case. T DECISION MAKING WHEN RIVALS MAKESSIMULTANEOUS DECISIONS As emphasized in the introduction, the “fewness of firms” in oligopoly markets causes each firm’s demand and marginal revenue conditions, and hence each firm’s profits, to depend on the pricing decisions, output decisions, expansion tho21901_ch13_509-574.indd 511 8/11/15 5:09 PM 512  C H A P T E R 13   Strategic Decision Making in Oligopoly Markets game theory An analytical guide or tool for making decisions in s­ ituations involving ­interdependence. game Any decision-making situation in which people compete with each other for the purpose of gaining the greatest individual payoff. simultaneous decision games A situation in which competing firms must make their individual decisions without knowing the decisions of their rivals. tho21901_ch13_509-574.indd 512 decisions, and so forth, of every rival firm in an oligopoly market. The resulting interdependence and strategic behavior make decisions much more complicated and uncertain. To make the best decisions they can when every firm is trying to anticipate the decisions of every other firm, managers must learn to think strategically. Perhaps you are thinking, “Sure, interdependence complicates decision making and makes it messy. So what do I as a manager do in such situations? How do I go about making strategic decisions?” We can’t give you a set of rules to follow. The art of making strategic decisions R is learned from experience. We can, however, introduce you to a tool for thinking about strategic deciI theory provides a useful guideline on how sion making: game theory. Game to behave in strategic situations Cinvolving interdependence. This theory was developed more than 50 years ago to provide a systematic approach to strategic decision making. During A the past 25 years, it has become increasingly important to economists for analyzing oligopoly behavior. It is also becoming R more useful to managers in making business decisions. Unfortunately, learning D not guarantee that you will always “win” the principles of game theory will or make greater profit than your , rivals. In the real world of business decision making, your rival managers will also be strategic thinkers who will try to predict your actions, and they will try to counteract your strategic decisions. And, to make winning even less certain, A many unpredictable, and even unknown, events are frequently just as important as strategic thinking in determining D final outcomes in business. Game theory can only provide you with some genR eral principles or guidelines to follow in strategic situations like those that oligopoly managers face. I You might think of the word game as meaning something fun or entertaining to do, but managers may orE may not find it fun to play the strategic games that arise in oligopoly. To game N theorists—economists who specialize in the study of strategic behavior—a game is any decision-making situation in which Nfor the purpose of gaining the greatest indipeople compete with each other vidual payoff, rather than group E payoff, from playing the game. In the game of oligopoly, the people in the game, often called “players,” are the managers of the oligopoly firms. Payoffs in the oligopoly game are the individual profits earned by each firm. 1 In this section, we will introduce you to strategic thinking by illustrating some 9 strategic decision making that can help you of the fundamental principles of make better decisions in one of 0 the more common kinds of strategic situations managers face: making simultaneous decisions about prices, production, advertis2 ing levels, product styles, quality, and so on. Simultaneous decision games ocT cur in oligopoly markets when managers must make their individual decisions without knowing the decisions of their rivals. Simultaneous decision games can S arise when managers make decisions at precisely the same time without knowledge of their rivals’ decisions. However, decisions don’t have to take place at the same time to be “simultaneous”; it is only necessary for managers not to know 8/11/15 5:09 PM C H A P T E R 13   Strategic Decision Making in Oligopoly Markets   513 I L L U S T R AT I O N 1 3 . 1 How Can Game Theory Be Used in Business Decision Making? Answers from a Manager “Game theory is hot . . . it’s been used to analyze everything from the baseball strike to auctions at the FCC.” So began an article in The Wall Street Journal R by F. William Barnett.a I Barnett points out that game theory helps managers pay attention to interactions with competitors, customC ers, and suppliers and focus on how near-term actions A promote long-term interests by influencing what the players do. After describing a version of the prisoners’ R dilemma game, he notes that an equilibrium (such as the one we show in cell D of Table 13.1) is unattractive D to all players. , Some rules of the road: Examine the number, concentration, and size distribution of the players. For example, industries with four or fewer players A have the greatest potential for game theory, because (1) the competitors are large enough to benefit more D from an improvement in general industry conditions than they would from improving their posiR tion at the expense of others (making the pie bigger I rather than getting a bigger share of a smaller pie) and (2) with fewer competitors it is possible to think E through the different combinations of moves and N countermoves. Keep an eye out for strategies inherent in your marN ket share. Small players can take advantage of larger E companies, which are more concerned with maintaining the status quo. Barnett’s example: Kiwi Airlines, with a small share of the market, was able to cut fares by up to 75 percent between Atlanta and Newark without a significant response from Delta and Continental. But, he notes, large players can create economies of scale or scope, such as frequent-flier programs, that are unattractive to small airlines. Understand the nature of the buying decision. For ­example, if there are only a few deals in an industry each year, it is very hard to avoid aggressive competition. Scrutinize your competitors’ cost and revenue structures. If competitors have a high proportion of fixed-to-variable cost, they will probably behave more aggressively than those whose production costs are more variable. Examine the similarity of firms. When competitors have similar cost and revenue structures, they often behave similarly. The challenge is to find prices that create the largest markets, then use nonprice c­ ompetition—distribution and service. Finally, analyze the nature of demand. The best chances to create value with less aggressive strategies are in markets with stable or moderately growing demand. Barnett concludes, “Sometimes [game theory] can increase the size of the pie. But for those who misunderstand [the] fundamentals of their industry, game theory is better left to the theorists.” As we said earlier, strategic decision making is best learned from experience. F. William Barnett, “Making Game Theory Work in ­Practice,” The Wall Street Journal, February 13, 1995. a 1 9 what their rivals have decided to do when they make their own decisions. If 0 you have information about what your rival has chosen to do before you make 2 your decision, then you are in a sequential decision-making game, which we will discuss in the next section T of this chapter. Making decisions without the benefit of knowing what their rivals have deS cided is, as you might suspect, a rather common, and unpleasant, situation for managers. For example, to meet publishers’ deadlines, two competing clothing retailers must decide by Friday, July 1, whether to run expensive full-page ads in tho21901_ch13_509-574.indd 513 8/11/15 5:09 PM 514  C H A P T E R 13   Strategic Decision Making in Oligopoly Markets Now try Technical Problem 2. local papers for the purpose of notifying buyers of their Fourth of July sales that begin on Monday. Both managers would rather save the expense of advertising because they know buyers expect both stores to have holiday sales and will shop at both stores on the Fourth of July even if no ads are run by either store. Unless they tell each other—or receive a tipoff from someone working at the newspaper—neither manager will know whether the other has placed an ad until Monday morning, long after they have made their “simultaneous” decisions. As we mentioned earlier, making decisions without knowing what rivals are going to do is quite a common situation R for managers. Any of the strategic decisions described at the beginning of this chapter could be a simultaneous decision game. I of oligopoly games, we begin with the grandTo introduce you to the concept father of most economic games. While C it doesn’t involve oligopoly behavior at all, it is a widely known and widely studied game of simultaneous decision making A elements of oligopoly decision making. This that captures many of the essential famous game is known as the prisoners’ dilemma. R D , The model of the prisoners’ dilemma is best illustrated by the story for which The Prisoners’ Dilemma payoff table A table showing, for every possible combination of decisions players can make, the outcomes or “payoffs” for each of the players in each decision combination. it is named. Suppose that a serious crime—say, grand-theft auto—is committed and two suspects, Bill and Jane, are apprehended and questioned by the police. A The suspects know that the police do not have enough evidence to make the charges stick unless one of themD confesses. If neither suspect confesses to the serious charges, then the police can only convict the suspects on much less seriR ous charges—perhaps, felony vandalism. So the police separate Bill and Jane and I to the other. The offer is this: If one suspect make each one an offer that is known confesses to the crime and testifies E in court against the other, the one who confesses will receive only a 1-year sentence, while the other (who does not confess) Nconfess, each receives a 6-year sentence. If neiwill get 12 years. If both prisoners ther confesses, both receive 2-year N sentences on the minor charges. Thus Bill and Jane each could receive 1 year, 2 years, 6 years, or 12 years, depending on what E the other does. Table 13.1 shows the four possibilities in a table called a payoff table. A payoff table is a table showing, for every possible combination of actions that players 1 can make, the outcomes or “payoffs” for each player. Each of the four cells in T A B L E 13.1 The Prisoners’ Dilemma: A Dominant Strategy Equilibrium Don’t confess Jane Confess tho21901_ch13_509-574.indd 514 9 0 2 Don’t confess A T 2 years, 2 years S C 1 year, 12 years Bill Confess B D 12 years, 1 year 6 years, 6 years 8/11/15 5:09 PM C H A P T E R 13   Strategic Decision Making in Oligopoly Markets   515 common knowledge A situation in which all decision makers know the payoff table, and they believe all other decision makers also know the payoff table. dominant strategy A strategy or action that always provides the best o ... Purchase answer to see full attachment