Chapter 10 covers the basics of game theory and then applies
the theory to explain the workings of oligopolistic markets. We begin with the
study of Nash equilibrium in one-shot, simultaneous-move games. We show that
the resulting payoffs are sometimes lower than would arise if players colluded.
The reason higher payoffs cannot be achieved in one-shot games is that each
participant has an incentive to cheat on a collusive agreement. In many games,
what primarily motivates firms to cheat is the fact that cheating is a dominant
strategy. Dominant strategies, when they exist, determine the optimal decision
in a one-shot game. We also examine solutions to games that are infinitely
repeated. The use of trigger strategies in these games enables players to enter
and enforce collusive agreements when the interest rate is low. By adopting
strategies that punish cheaters over long periods of time, collusive agreements
can be self-enforcing when the game is infinitely repeated. Other factors that
affect collusion are the number of firms, the history in the market, the ability
of firms to monitor one another's behavior, and the ability to punish cheaters.
Similar features of repeated interaction also help consumers and businesses
continue trading with each other while keeping product quality high. We conclude chapter 10 with coverage of finitely repeated
games with both uncertain and known terminal periods, as well as sequential-move
entry and bargaining games. When the interaction among parties is for a known
time period, problems with cheating in the last period can unravel cooperative
agreements that would have been supported by trigger strategies in infinitely
repeated games or games with an uncertain endpoint. In sequential-move games,
one must determine whether the threats used to induce a particular outcome in
the game are credible. |