Bài giảng Managerial Economics - Chapter 013: Strategic Decision Making in Oligopoly Markets

Chapter 13: Strategic Decision Making in Oligopoly MarketsMcGraw-Hill/IrwinCopyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.Oligopoly MarketsInterdependence of firms’ profitsDistinguishing feature of oligopolyArises when number of firms in market is small enough that every firms’ price & output decisions affect demand & marginal revenue conditions of every other firm in marketStrategic DecisionsStrategic behaviorActions taken by firms to plan for & react to competition from rival firmsGame theoryUseful guidelines on behavior for strategic situations involving interdependenceSimultaneous DecisionsOccur when managers must make individual decisions without knowing their rivals’ decisionsDominant StrategiesAlways provide best outcome no matter what decisions rivals makeWhen one exists, the rational decision maker always follows its dominant strategyPredict rivals will follow their dominant strategies, if they existDominant strategy equilibriumExists when when all decision makers have dominant strategiesPrisoners’ DilemmaAll rivals have dominant strategiesIn dominant strategy equilibrium, all are worse off than if they had cooperated in making their decisions BillDon’t confessConfessJaneDon’t confessA 2 years, 2 yearsB 12 years, 1 yearConfessC 1 year, 12 yearsD 6 years, 6 yearsPrisoners’ Dilemma (Table 13.1)JJBBDominated StrategiesNever the best strategy, so never would be chosen & should be eliminatedSuccessive elimination of dominated strategies should continue until none remainSearch for dominant strategies first, then dominated strategiesWhen neither form of strategic dominance exists, employ a different concept for making simultaneous decisionsSuccessive Elimination of Dominated Strategies (Table 13.3)Palace’s priceHigh ($10)Medium ($8)Low ($6)Castle’s priceHigh($10)A $1,000, $1,000B $900, $1,100C $500, $1,200Medium($8)D $1,100, $400E $800, $800F $450, $500Low($6)G $1,200, $300H $500, $350I $400, $400CPPayoffs in dollars of profit per weekCCPPSuccessive Elimination of Dominated Strategies (Table 13.3) Palace’s priceMedium ($8)Low ($6)Castle’s priceHigh($10)B $900, $1,100C $500, $1,200Low($6)H $500, $350I $400, $400CPPCReduced Payoff TableUnique SolutionPayoffs in dollars of profit per weekMaking Mutually Best DecisionsFor all firms in an oligopoly to be predicting correctly each others’ decisions:All firms must be choosing individually best actions given the predicted actions of their rivals, which they can then believe are correctly predictedStrategically astute managers look for mutually best decisionsNash EquilibriumSet of actions or decisions for which all managers are choosing their best actions given the actions they expect their rivals to chooseStrategic stabilityNo single firm can unilaterally make a different decision & do betterSuper Bowl Advertising: A Unique Nash Equilibrium (Table 13.4) Pepsi’s budgetLowMediumHighCoke’s budgetLowA $60, $45B $57.5, $50C $45, $35MediumD $50, $35E $65, $30F $30, $25HighG $45, $10H $60, $20I $50, $40CPPayoffs in millions of dollars of semiannual profitCCPPNash EquilibriumWhen a unique Nash equilibrium set of decisions existsRivals can be expected to make the decisions leading to the Nash equilibriumWith multiple Nash equilibria, no way to predict the likely outcomeAll dominant strategy equilibria are also Nash equilibriaNash equilibria can occur without dominant or dominated strategiesBest-Response CurvesAnalyze & explain simultaneous decisions when choices are continuous (not discrete)Indicate the best decision based on the decision the firm expects its rival will makeUsually the profit-maximizing decisionNash equilibrium occurs where firms’ best-response curves intersectDeriving Best-Response Curve for Arrow Airlines (Figure 13.1)Bravo Airway’s quantityBravo Airway’s priceArrow Airline’s priceArrow Airline’s price and marginal revenuePanel A : Arrow believes PB = $100Panel B: Two points on Arrow’s best-response curveBest-Response Curves & Nash Equilibrium (Figure 13.2)Bravo Airway’s priceArrow Airline’s priceSequential DecisionsOne firm makes its decision first, then a rival firm, knowing the action of the first firm, makes its decisionThe best decision a manager makes today depends on how rivals respond tomorrowGame TreeShows firms decisions as nodes with branches extending from the nodesOne branch for each action that can be taken at the nodeSequence of decisions proceeds from left to right until final payoffs are reachedRoll-back method (or backward induction)Method of finding Nash solution by looking ahead to future decisions to reason back to the current best decisionSequential Pizza Pricing (Figure 13.3)Panel A – Game treePanel B – Roll-back solutionFirst-Mover & Second-Mover AdvantagesFirst-mover advantageIf letting rivals know what you are doing by going first in a sequential decision increases your payoffSecond-mover advantageIf reacting to a decision already made by a rival increases your payoffDetermine whether the order of decision making can be confer an advantageApply roll-back method to game trees for each possible sequence of decisions Motorola’s technologyAnalogDigitalSony’s technologyAnalogA $10, $13.75B $8, $9DigitalC $9.50, $11D $11.875, $11.25First-Mover Advantage in Technology Choice (Figure 13.4)Panel A – Simultaneous technology decisionSSMMPanel B – Motorola secures a first-mover advantageFirst-Mover Advantage in Technology Choice (Figure 13.4)Strategic Moves & CommitmentsActions used to put rivals at a disadvantageThree typesCommitmentsThreatsPromisesOnly credible strategic moves matterManagers announce or demonstrate to rivals that they will bind themselves to take a particular action or make a specific decisionNo matter what action is taken by rivalsThreats & PromisesConditional statementsThreatsExplicit or tacit“If you take action A, I will take action B, which is undesirable or costly to you.”Promises“If you take action A, I will take action B, which is desirable or rewarding to you.”Cooperation in Repeated Strategic DecisionsCooperation occurs when oligopoly firms make individual decisions that make every firm better off than they would be in a (noncooperative) Nash equilibriumCheatingMaking noncooperative decisionsDoes not imply that firms have made any agreement to cooperateOne-time prisoners’ dilemmasCooperation is not strategically stableNo future consequences from cheating, so both firms expect the other to cheatCheating is best response for eachPricing Dilemma for AMD & Intel (Table 13.5) AMD’s priceHighLowIntel’s priceHighA:$5, $2.5B:$2, $3LowC:$6, $0.5D:$3, $1IIAAPayoffs in millions of dollars of profit per weekCooperationAMD cheatsIntel cheatsNoncooperationPunishment for CheatingWith repeated decisions, cheaters can be punishedWhen credible threats of punishment in later rounds of decision making existStrategically astute managers can sometimes achieve cooperation in prisoners’ dilemmasDeciding to CooperateCooperateWhen present value of costs of cheating exceeds present value of benefits of cheatingAchieved in an oligopoly market when all firms decide not to cheatCheatWhen present value of benefits of cheating exceeds present value of costs of cheatingDeciding to CooperateWhere Bi = πCheat – πCooperate for i = 1,, NWhere Cj = πCooperate – πNash for j = 1,, PA Firm’s Benefits & Costs of Cheating (Figure 13.5)Trigger StrategiesA rival’s cheating “triggers” punishment phaseTit-for-tat strategyPunishes after an episode of cheating & returns to cooperation if cheating endsGrim strategyPunishment continues forever, even if cheaters return to cooperationFacilitating PracticesLegal tactics designed to make cooperation more likelyFour tacticsPrice matchingSale-price guaranteesPublic pricingPrice leadershipPrice MatchingFirm publicly announces that it will match any lower prices by rivalsUsually in advertisementsDiscourages noncooperative price-cuttingEliminates benefit to other firms from cutting pricesSale-Price GuaranteesFirm promises customers who buy an item today that they are entitled to receive any sale price the firm might offer in some stipulated future periodPrimary purpose is to make it costly for firms to cut pricesPublic PricingPublic prices facilitate quick detection of noncooperative price cutsTimely & authenticEarly detectionReduces PV of benefits of cheatingIncreases PV of costs of cheatingReduces likelihood of noncooperative price cutsPrice LeadershipPrice leader sets its price at a level it believes will maximize total industry profitRest of firms cooperate by setting same priceDoes not require explicit agreementGenerally lawful means of facilitating cooperative pricingCartelsMost extreme form of cooperative oligopolyExplicit collusive agreement to drive up prices by restricting total market outputIllegal in U.S., Canada, Mexico, Germany, & European UnionCartelsPricing schemes usually strategically unstable & difficult to maintainStrong incentive to cheat by lowering priceWhen undetected, price cuts occur along very elastic single-firm demand curveLure of much greater revenues for any one firm that cuts priceCartel members secretly cut prices causing price to fall sharply along a much steeper demand curveIntel’s Incentive to Cheat (Figure 13.6)Tacit CollusionFar less extreme form of cooperation among oligopoly firmsCooperation occurs without any explicit agreement or any other facilitating practicesStrategic Entry DeterrenceEstablished firm(s) makes strategic moves designed to discourage or prevent entry of new firm(s) into a marketTwo types of strategic movesLimit pricingCapacity expansionLimit PricingEstablished firm(s) commits to setting price below profit-maximizing level to prevent entryUnder certain circumstances, an oligopolist (or monopolist), may make a credible commitment to charge a lower price foreverLimit Pricing: Entry Deterred (Figure 13.7)Limit Pricing: Entry Occurs (Figure 13.8)Capacity ExpansionEstablished firm(s) can make the threat of a price cut credible by irreversibly increasing plant capacityWhen increasing capacity results in lower marginal costs of production, the established firm’s best response to entry of a new firm may be to increase its own level of productionRequires established firm to cut its price to sell extra outputExcess Capacity Barrier to Entry (Figure 13.9)Excess Capacity Barrier to Entry (Figure 13.9)