🗊Презентация Simultaneous games. Oligopoly. (Lecture 2)

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Lecture 2 Simultaneous games: Oligopoly
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Lecture 2 Simultaneous games: Oligopoly

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Oligopoly Extreme forms of market structure are uncomplicated: Monopoly: one producer, no strategic interaction Perfect competition: many producers, price is given, no strategic interaction Oligopoly: the industry is dominated by a small number of large firms. Intermediate case, between perfect competition and monopoly. Smartphones industry Oil producers Accounting Big 4 Boeing and Airbus
Описание слайда:
Oligopoly Extreme forms of market structure are uncomplicated: Monopoly: one producer, no strategic interaction Perfect competition: many producers, price is given, no strategic interaction Oligopoly: the industry is dominated by a small number of large firms. Intermediate case, between perfect competition and monopoly. Smartphones industry Oil producers Accounting Big 4 Boeing and Airbus

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Strategic interactions and oligopoly When making strategic decisions (on prices, quantity, advertising, innovation etc.) the oligopolist must consider the actions/reactions of its competitors. Payoff interdependency: A producer’s payoff depends on what the other producers do. Use of game theory. Application of NE to oligopoly theory. Analysis of the decision of how much to produce (quantity).
Описание слайда:
Strategic interactions and oligopoly When making strategic decisions (on prices, quantity, advertising, innovation etc.) the oligopolist must consider the actions/reactions of its competitors. Payoff interdependency: A producer’s payoff depends on what the other producers do. Use of game theory. Application of NE to oligopoly theory. Analysis of the decision of how much to produce (quantity).

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Demand and costs Demand: The market price is a function of the total quantity produced in the industry, e.g: e.g: Costs: Suppose that the marginal cost is 0.28
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Demand and costs Demand: The market price is a function of the total quantity produced in the industry, e.g: e.g: Costs: Suppose that the marginal cost is 0.28

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Monopoly The monopolist chooses Q to maximize profit: Outcome: Low output to keep prices high and maximize profit.
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Monopoly The monopolist chooses Q to maximize profit: Outcome: Low output to keep prices high and maximize profit.

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Perfect competition Many producers, the price is given. In equilibrium, Q is such that P=MC, i.e. P=0.28. Producers make zero profit. P = 1 − 0.001Q = 0.28, hence Q = 720, Quantity is higher under perfect competition than under monopoly.
Описание слайда:
Perfect competition Many producers, the price is given. In equilibrium, Q is such that P=MC, i.e. P=0.28. Producers make zero profit. P = 1 − 0.001Q = 0.28, hence Q = 720, Quantity is higher under perfect competition than under monopoly.

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The Cournot model What is the Cournot model? Model of industry structure where producers’ strategic decision is about how much to produce. Two producers, Firm 1 and Firm 2 (oligopoly). Produce the same good Sell on the same market One market price, which depends on the total output No entry Simultaneous game Example: oil producing countries
Описание слайда:
The Cournot model What is the Cournot model? Model of industry structure where producers’ strategic decision is about how much to produce. Two producers, Firm 1 and Firm 2 (oligopoly). Produce the same good Sell on the same market One market price, which depends on the total output No entry Simultaneous game Example: oil producing countries

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Demand The more producers jointly produce, the lower the market price
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Demand The more producers jointly produce, the lower the market price

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Costs and profit Suppose that the marginal cost is 0.28: Profit of Firms 1 and 2:
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Costs and profit Suppose that the marginal cost is 0.28: Profit of Firms 1 and 2:

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Discrete choices Suppose there are just three possible quantities that each firm i=1,2 can choose qi = 180, 240 or 360. There are 3x3=9 possible outcomes. For example, if firm 1 chooses q1=180, and firm 2 chooses q2=240, then:
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Discrete choices Suppose there are just three possible quantities that each firm i=1,2 can choose qi = 180, 240 or 360. There are 3x3=9 possible outcomes. For example, if firm 1 chooses q1=180, and firm 2 chooses q2=240, then:

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Discrete choices
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Discrete choices

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Continuous choices Discrete games are not suitable to analyze the decision of how much to produce Producers are not limited to just 3 levels of production. Quantity is a continuous variable, not a discrete one. We now assume that producers can produce any quantity. How much to produce? More units sold means more volume, but lower price. Essential to take into account the other producer’s behavior.
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Continuous choices Discrete games are not suitable to analyze the decision of how much to produce Producers are not limited to just 3 levels of production. Quantity is a continuous variable, not a discrete one. We now assume that producers can produce any quantity. How much to produce? More units sold means more volume, but lower price. Essential to take into account the other producer’s behavior.

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Continuous choices Simplifying the profit function:
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Continuous choices Simplifying the profit function:

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Best responses We find the Nash equilibrium by deriving the best response functions. To maximize profit, differentiate and set equal to zero: Do the same for Firm 2:
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Best responses We find the Nash equilibrium by deriving the best response functions. To maximize profit, differentiate and set equal to zero: Do the same for Firm 2:

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Best responses
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Best responses

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Best responses
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Best responses

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Best responses
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Best responses

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Nash equilibrium Nash Equilibrium is where best responses meet. Firm 1’s equilibrium strategy is his best response to Firm 2’s equilibrium strategy which is also his best response to Firm 1’s equilibrium strategy. Joint best response, and no incentive for producers to choose a different action.
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Nash equilibrium Nash Equilibrium is where best responses meet. Firm 1’s equilibrium strategy is his best response to Firm 2’s equilibrium strategy which is also his best response to Firm 1’s equilibrium strategy. Joint best response, and no incentive for producers to choose a different action.

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Simultaneous games. Oligopoly. (Lecture 2), слайд №19
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Nash equilibrium
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Nash equilibrium

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Effect of market structure
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Effect of market structure

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Effect of market structure Cournot with more than 2 producers:
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Effect of market structure Cournot with more than 2 producers:

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Effect of market structure Having fewer producers is associated with: Lower total output Higher prices Higher profitability Empirical evidence shows that profitability is on average higher in highly concentrated industries.
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Effect of market structure Having fewer producers is associated with: Lower total output Higher prices Higher profitability Empirical evidence shows that profitability is on average higher in highly concentrated industries.

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Cartel Wouldn’t the two producers be better off cooperating rather than competing? YES Both producers could maximize joint profit by jointly producing the monopolist output level: Q=360, i.e. 180 for each producer. The monopolist profit (129.6) is then shared between the two producers (i.e. 64.8 for each, instead of 57.6 if they play the NE).
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Cartel Wouldn’t the two producers be better off cooperating rather than competing? YES Both producers could maximize joint profit by jointly producing the monopolist output level: Q=360, i.e. 180 for each producer. The monopolist profit (129.6) is then shared between the two producers (i.e. 64.8 for each, instead of 57.6 if they play the NE).

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Cartel “The OPEC cartel agreed on Wednesday to reduce production by 2.2 million barrels a day, the group’s largest cut ever, in an effort to put a floor on falling oil prices. …Mr. Khelil (OPEC’s president) said the group wanted to “eliminate” an overhang of oil inventories …and aimed to push prices up to $70 to $80 a barrel. “We have…excessive stocks that could really lead to a collapse in prices,” Mr. Khelil said during a chaotic and confused news conference after the meeting. (NY Times, December 17, 2008)
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Cartel “The OPEC cartel agreed on Wednesday to reduce production by 2.2 million barrels a day, the group’s largest cut ever, in an effort to put a floor on falling oil prices. …Mr. Khelil (OPEC’s president) said the group wanted to “eliminate” an overhang of oil inventories …and aimed to push prices up to $70 to $80 a barrel. “We have…excessive stocks that could really lead to a collapse in prices,” Mr. Khelil said during a chaotic and confused news conference after the meeting. (NY Times, December 17, 2008)

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Simultaneous games. Oligopoly. (Lecture 2), слайд №26
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Cartel stability Each producer makes more profit by deviating from the cartel quantity. For instance, if Firm 1 sticks to the cartel quantity of 180, Firm 2’s best response is: The cartel problem is a Prisoner’s dilemma situation: it is collectively rational to cooperate (“optimal” outcome), but it is individually rational to defect (NE).
Описание слайда:
Cartel stability Each producer makes more profit by deviating from the cartel quantity. For instance, if Firm 1 sticks to the cartel quantity of 180, Firm 2’s best response is: The cartel problem is a Prisoner’s dilemma situation: it is collectively rational to cooperate (“optimal” outcome), but it is individually rational to defect (NE).

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Cartel stability “The coffee bean cartel, the Association of Coffee Producing Countries, whose members produce 70% of the global supply, will shut down in January after failing to control international prices. [...] Mr Silva also said the failure of member countries to comply with the cartel’s production levels was a reason for the closure.” (BBC News, October 19, 2001)
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Cartel stability “The coffee bean cartel, the Association of Coffee Producing Countries, whose members produce 70% of the global supply, will shut down in January after failing to control international prices. [...] Mr Silva also said the failure of member countries to comply with the cartel’s production levels was a reason for the closure.” (BBC News, October 19, 2001)

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Cartel stability To summarize… Producers have incentive to form cartels, but cartels are unstable. Q: How to explain the fact that some cartels are quite stable, unlike what is predicted in the Cournot model? List of cartel violations in the European Union http://ec.europa.eu/competition/cartels/cases/cases.html
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Cartel stability To summarize… Producers have incentive to form cartels, but cartels are unstable. Q: How to explain the fact that some cartels are quite stable, unlike what is predicted in the Cournot model? List of cartel violations in the European Union http://ec.europa.eu/competition/cartels/cases/cases.html

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Comparative statics If Firm 1’s marginal cost is 0.25 rather than 0.28, how does it affect the outcome? Equilibrium:
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Comparative statics If Firm 1’s marginal cost is 0.25 rather than 0.28, how does it affect the outcome? Equilibrium:

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Summary Nash equilibrium and continuous choices. Oligopoly and quantity competition: Cournot model. Trade-off between high output and low price, or low output and high price. Strategic interactions yield a unique NE, with intermediate output level. The cartel solution is more profitable but not stable.
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Summary Nash equilibrium and continuous choices. Oligopoly and quantity competition: Cournot model. Trade-off between high output and low price, or low output and high price. Strategic interactions yield a unique NE, with intermediate output level. The cartel solution is more profitable but not stable.

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