Consider whether the promises and threats made toward each other by duopolists and oligopolists are always credible (believable). Look at the figure below. Imagine that the two firms will play this game twice in sequence and that each firm claims the following policy. Each says that if both it and the other firm choose the high price in the first game, then it will also choose the high price in the second game (as a reward to the other firm for cooperating in the first game).

a. As a first step toward thinking about whether this policy is credible, consider the situation facing both firms in the second game. If each firm bases its decision on what to do in the second game entirely on the payouts facing the firms in the second game, which strategy will each firm choose in the second game? 

b. Now move backward in time one step. Imagine that it is the start of the first game and each firm must decide what to do during the first game. Given your answer to part a, is the publicly stated policy credible? 

c. Given your answers to a and b, what strategy will each firm choose in the first game? 

Transcribed Image Text:

RareAir's price strategy High Low $12 $15 A High $6 $12 $6 $8 Low $8 $15 Uptown's price strateogy