Unit 17: Oligopoly and Game Theory
A handful of firms who each know a rival will react to every move — modeled with the payoff matrix that explains why cartels keep cheating on themselves.
6 topics · 20 questions
Each topic is a path, not a menu: work down it in order and every question builds on the one above. Click any of them to watch the answer draw itself.
Duopoly and Strategic Interaction
- How it worksHow does having only a few competitors force each oligopolist to consider its rivals' reactions in a way a competitive firm never has to?
- Common mistakeWhy doesn't having only two or three sellers guarantee the same low, competitive price as having thousands would?
- Going furtherWhat happens to an oligopoly's outcome as the number of firms in it grows from two toward the thousands seen in perfect competition?
Your turn1 of 2
One gas station cuts its price from 4.2 to 3.189 dollars to undercut its one rival across the street. By how many dollars did the price fall?Collusion and Cartels
- How it worksHow does a cartel act like a single monopolist by restricting total output and raising the price for every member?
- Worked exampleFind the cartel's total output and price if two identical firms agree to split a monopoly quantity of 100 units evenly between them.
- Common mistakeWhy isn't collusion between firms just automatically illegal or automatically stable once it's agreed to?
Your turn1 of 2
Find the cartel's output per firm if two identical firms agree to split a monopoly quantity of 116 units evenly between them.The Prisoners' Dilemma and the Payoff Matrix
- How it worksHow does a payoff matrix lay out each firm's profit under every combination of high price and low price to find the dominant strategy?
- Worked exampleWalk me through a payoff matrix where each firm earns 50 if both keep prices high, 20 if both cut prices, and 60 versus 10 if only one cuts.
- Common mistakeWhy doesn't the fact that both firms would do better by cooperating mean cooperation is what actually happens?
- Going furtherWhat happens to the incentive to cheat on a cartel agreement if the same two firms will face each other again next year?
- Ties togetherHow does each firm's dominant strategy in a payoff matrix define a Nash equilibrium?
Your turn1 of 2
In a payoff matrix, each firm earns 44 dollars if both keep prices high, 20 dollars if both cut prices, and 74 dollars versus 8 dollars if only one cuts. What is the gain from cutting price alone instead of cooperating, comparing the 74 dollar payoff to the 44 dollar cooperative payoff?Nash Equilibrium
- How it worksHow does a Nash equilibrium settle where neither firm can improve its own payoff by changing its choice alone, given the other firm's choice?
- Worked exampleFind the Nash equilibrium in a pricing payoff matrix where cutting price is each firm's dominant strategy regardless of what the other does.
- Common mistakeWhy isn't a Nash equilibrium the same thing as the best possible outcome for both players combined?
Your turn1 of 2
In a pricing matrix, cutting price is each firm's dominant strategy, earning 28 dollars each when both cut, versus 54 dollars each if both had cooperated instead. What is the gap between the cooperative and the Nash equilibrium payoff?Why Cartels Break Down
- How it worksHow does each cartel member's incentive to cheat for a short-term gain undermine the group's collective agreement to restrict output?
- Common mistakeWhy doesn't a formal agreement between cartel members guarantee that none of them will secretly break it?
- Ties togetherHow does the incentive to cheat on a cartel mirror the same logic that makes cooperation hard in the prisoners' dilemma?
Your turn1 of 2
A cartel member earns 51 dollars by sticking to its quota, but could earn 89 dollars by secretly cheating and pumping more oil while others hold back. What is the gain from cheating?Antitrust Policy Toward Oligopolies
- How it worksHow do antitrust laws try to block collusion and mergers that would push an oligopoly's outcome closer to a monopoly's?
- Common mistakeWhy isn't every merger between oligopoly firms automatically bad for consumers?
- Going furtherWhat happens to prices and output in an oligopoly if antitrust enforcement successfully breaks up an existing cartel?
Your turn1 of 2
Antitrust regulators investigate whether two airlines are secretly coordinating their ticket prices instead of competing independently. What is the underlying purpose of antitrust laws in a case like this?