Good Game Theory: Submission #3 Essay Example

Market Power

It refers to the ability of a firm to profitably influence market prices by manipulating demand, supply or both, away from the competitive prices. It is effectively the power to make prices without suffering losses in demand or market share. I(n regulatory terms, market power is defined as the ability to withhold or sell less than a in a competitive market and/or change prices away from the competitive equilibrium level for a considerable time period. Market power is zero in a competitive market structure, but increases with the degree of market imperfection in the market structure, such that the monopolies have the highest market power (Blanchard, et al., 2013; Gintis, 2009).

Market Structures

A monopoly is an imperfect market structure characterized by a single firm with the exclusive control or possession of the right to trade in, or supply a commodity. The commodity has no close substitute, which in turn gives the single firm the power to control both quantity and prices. On the other hand, a monopolistic competitive structure is characterized by a fairly large number of firms trading in goods/services that are slightly differentiated (goods/services are not perfect substitutes), effectively giving the firms the power to manipulate prices/quantity without necessarily losing their market share. The oligopolistic structure refers to an industry with a few dominant firms, with the small number of firms meaning that their strategies are interdependent.

Dominant Strategy” and “Nash equilibrium

A Nash equilibrium is a situation in game theory where every player’s strategy yields the highest possible payoff, given the strategy of other players. This means that all players would likely consistently use the respective strategies that give this equilibrium provided other players use the same strategies, because they will be worse off if they deviate away from the strategy. On the other hand, the dominant strategy is one that yields the highest payoff, regardless of the strategy used by the rival. A dominant equilibrium is a Nash equilibrium in which all players employ a dominant strategy. In this case, the two bakeries choosing not to discount their prices ($12, $16) is the dominant strategy for both firms because it yields the highest payoffs of either firm, regardless of the strategy used by its rival. Effectively, this is a Nash equilibrium, because both firms stand to gain the most. While both firms have dominant strategies that are different from the Nash equilibrium, the uncertainty involved means that they can do worse, if they choose those strategies then their payoff would be dependent on the strategy chosen by the rival (Geckil and Anderson, 2009).
Collusion refers to the agreement between the two players (market players) to use respective strategies that maximizes both their payoffs are maximized. In this case, both bakeries may collude so that they both do not have to discount their prices and get $12 and $16 in revenues respectively. However, collusive arrangements are unstable, because there is always an incentive for the players to cheat. For example, while both players are best off not discounting their prices, if they collude not to, and then Crusty goes ahead and sells its bread at $3, then the bakery will make $18, while Loaf will only manage $3. If one player cheats and another keeps the promise, the cheat stands to gain (Geckil and Anderson, 2009).

Bibliography

Blanchard, O., Giavazzi, F. & Amighinim, A., 2013. Macroeconomics: A European Perspective, 2/E. London: Pearson.
Geckil, I. K. & Anderson, P. L., 2009. Applied Game Theory and Strategic Behavior. 1st Ed ed. New York: CRC Press.
Gintis, H., 2009. Game Theory Evolving: A Problem-Centered Introduction to Modeling Strategic Interaction. Second Edition ed. Princeton: Princeton University Press.