3. Two rival oligopolists in the athletic supplements industry, the Power Fuel C

Question

3. Two rival oligopolists in the athletic supplements industry, the Power Fuel Company and the Brawny Juice Company have to decide on their pricing strategy. Each can choose either a high price or a low matrix with the profits that each firm can expect to earn depending on the pricing strategy it adopts. price. Table shows the payoff Power Fuel's (P) Strategy High Price ny High Price P S12m B: $12m B: SI6m Low Price A. If the firms act out of individual self-interest, which prices will they select (in other words, what is the Nash equilibrium)? Brawny Juice's (B) P: $16m B: $4m Strategy Low Price P SAP S8m B: S8m B. In the game above, if the firms cooperate and choose the strategy that maximizes the total game payoff, what prices will they select? Why would it be hard for the firms to maintain these strategies? Suggest one way these firms could try to commit to profit maximizing prices.

Explanation / Answer

A. The Nash Equilibrium will be both setting a low price and earning a profit of $8 million each. This is because when both choose the high price, both have an incentive to charge a lower price and earn a higher profit. When one starts to charge a lower price, the other also starts to charge a lower price to increase profits. Thus the Nash equilibrium is when both set low prices and earn $8 million in profits.

B. If the firms cooperate, then the strategy that maximizes the payoffs will be both setting high prices. This is difficult to maintain because of the reason given in the previous answer. One strategy is if they form an oligopoly with formal documents, then the firms could try to commit to profit-maximizing prices.

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