microeconomics for business quiz 4 solutions

8/11/2019 Microeconomics for Business Quiz 4 Solutions

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Quiz #41. (10 pts) Answer if the following comment is T (true) or F (false).

(correct answer +2 pt, written but wrong -1 pt, and empty 0 pt)

(a) In a randomized equilibrium strategy, the expected return from each of the

possible moves should be equal.T

(b)To solve the equilibrium in a game in extensive form, we should analyze the

best move at the initial node, and then, analyze reason forward to

subsequent nodes.F

(c) Under indirect segment discrimination, changes in the price of a product

targeted at one segment will affect the demand for products targeted at

other segments. T

(d) If the marginal cost of the separate products is high, a seller should consider

pure bundling instead of mixed bundling. F

(e)

A dominated strategy is a strategy that yields a poorer outcome depending on

what the other player(s) choose. F

2. (30 pts) Some 85% of on-line book sales are made by either Amazon or Barnes

and Noble. In 2003, Amazons total on-line sales were $1.8 billion while Barnes

and Noble (.com) had $300 million of sales. It is estimated that the own price

elasticity for Amazon is -0.45 and for Barnes and Noble is -3.5. The cross price

elasticity for Amazon with respect to the Barnes and Noble price is 0.2, while for

Barnes and Noble it is 3.5 with respect to the Amazon price (Source: Judith

Chevalier and Austan Goolsbee. 2003. Measuring prices and price competition

online: Amazon vs. Barnes and Nobles.Quantitative Marketing and Economics.

Vol. 2).

(a) Construct the following game in strategic form. Each on-line retailer is


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considering a 1% increase in price. Estimate the revenue impacts for each

retailer and speculate on the profit impacts.

Unit: billionBarnes and Noble

(B&N)

Amazon

(A)

No change 1% Increase

No change

A1.8

B&N

0.3

A1.8 * 1.002= 1.8036

B&N

0.3 *(1.01)*(0.965) =

0.2924

1% Increase

A

1.8*1.01*0.9955 =

1.8098

B&N

0.3*1.035 = 0.3105

A

1.8*1.01*0.9955*1.002 =

1.8134

B&N

0.3*1.01*0.965*1.035

= 0.3026

As Profit = Revenue Cost

If the change of cost is much lower than revenue change, the profit impact

should be positively correlated to the revenue impacts shown in the table. If,

however, the change in costs of selling on-line increases more than revenue

increases, then profits would actually decline despite revenues increasing.

(b)Are there any Nash equilibria in this game?

Yes, there is one Nash equilibria at which Amazon raises price by 1% and

B&N remains the same price.

(c) Are there any reasons why Amazon would not raise prices, although its

demand is estimated to be inelastic? Would you say that Amazon is the

dominant firm in on-line book sales?

Please refer to the answer sheet handout for in-book discussion questions.

3. (30 pts) The demand for most new films peaks in the first few days after opening,


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then tapers off. Two key factors that affect potential demand are the season

(Summer and Christmas are the best times) and the timing of other releases.

Suppose that both Studio Luna and Moonlight Movies are producing major action

movies. The two studios must choose between release on December 11 or 18. If

both films open on December 11, each will sell 200,000 tickets. If one opens on

December 11 and the other on December 18, then the early release will sell

350,000 tickets, while the later release will sell 150,000. If both open on

December 18, each will sell 100,000 tickets.

(a)

Suppose that the studios choose their launch dates simultaneously. Construct

a game in strategic form to illustrate the situation and identify the equilibrium

or equilibria.


(b) Is this a zero-sum game?


(c) Is this a situation of first-mover advantage? Explain your answer with a

suitable game in extensive form.


4. (30 pts) Regarding the story of the prisonersdilemma,write down a game in

strategic form showing the prisonerschoice and explain what outcome is likely.

What does the prisonersdilemma teach us about oligopolies?


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Henry

Stephen

Not confess Confess

Not confessStephen

1 year

Henry1 year

Stephen

10 years

HenryFree

Confess

StephenFree

Henry

10 years

Stephen5 years

Henry

5 years NE

If both of them confess, they have to stay in prison for 5 years. However, if both

of them don

t confess, they just have to stay for 1 year, which is a better

cumulative payoff for both of them. But each is afraid of the worst case scenario

in which the other suspect confesses and they do not confess. In this case, the

one who doesnt confess has to stay in prison for 10 years, a penalty so serious

that it keeps each from being able to trust the other suspect and cooperate for

the best cumulative outcome. As the result, the Nash equilibrium will be both of

them confessing and thus going to prison for 5 years.

Oligopoly Profit A

B

Less More

Less

A

5

B

5

A

6

B

3

More

A3

B

6

A4

B4 NE

[According to investopedia.com]

http://www.investopedia.com/study-guide/cfa-exam/level-1/microeconomics/cfa19.asp


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Oligopoly refers to a market with "few sellers". Oligopolies interact among

themselves. When an oligopolist changes a price, it must take into account how

other firms in the industry will respond.

The prisoners' dilemma illustrates a situation in which individuals arrive at anon-optimal solution, due to a lack of cooperation and trust.A similar situation

occurs with oligopolies.If firms within an oligopolistic industry have cooperation

and trust with each other, then they can theoretically maximize industry profits

by setting a monopolistic price. Firms would then have to figure out how to fairly

divide up the profits.

If oligopolies collude successfully, they will set price and output such that MR =

MC for the industry overall. In figure 3.17 on the following page, this is depicted

as Paand Qa. Without collusion, firms will lower prices to attract more customers.

Gradually, the price and output will move to Pband Qb, which is identical to what

would be achieved with a competitive market.

Oligopolist Profit Maximization

Oligopolies have strong incentives to collude becausewhile acting together,

they can restrict output and set prices so that economic profits are earned. The

individual oligopolist has an incentive to cheat because the firm's demand curve

is more elastic than the overall market demand curve. By secretly lowering prices,

the firm can sell to customers who would not buy at the higher price, as well as

to customers who normally buy from the other firms.

Oligopolistic agreements tend to be unstableoften with many or all of the

parties breaking the collusion agreementdue to these conflicting tendencies.

microeconomics for business quiz 4 solutions

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