Nash Equilibrium (game Theory)

1. Nash equilibrium (Game Theory)

Westinghouse

Set Price $4000 Set Price $2000

General Electric Set Price $4000 West P = $10 M

G.E. P = $10 M West P = $16 M

G.E. P = -$4 M

Set Price $2000 West P = -$4M

G.E. P = $16 M West P = $4 M

G.E. P = $4

Table (1)

Explain the process 

Collusion is illegal, therefore, the first thing that would normally happen between competitors when it comes to setting the price is cutting it in order to make more profits. If G.E. cuts the price to $4000 Westinghouse will face two options, either assuming that G.E will set the price at $4000 or $2000. If Westinghouse decides to set the price at $4000, both businesses will earn a profit of $10M (First Column). However, if Westinghouse cuts the price to $2000, the Westinghouse will earn $16M and G.E. will lose $4M (Second column). G.E. will also reason and cuts the price to $2000, if that happens and Westinghouse sets it at $4000, G.E. will be the one to earn $16M and Westinghouse to lose $4M (Third column). If both competitors cut the price to $2000, both of them will earn a profit of $4M. Nash equilibrium, which is also called the game theory, is a stable state of a system that involves several interacting participants in which no participant can gain by a change of strategy as long as all the other participants remain unchanged). In other words, if collusion takes place, both business would choose to set the price at $4000 so both would earn $10M, therefore, no one will deviate from the original choice, the outcome of both of them setting the price at $4000 or $2000 represents a Nash equilibrium.

Game theory can be tricky since collusion is illegal. Collusion means that competitors will be able talk the price and agree on what to set it at. This will clearly hurt us the consumers. If collusion takes place, G.E. will try to convince Westinghouse to set the price at $4000 and G.E. to set it at $2000, thus, G.E. would make a profit of $16M, but G.E will be willing to pay a maximum of $10M to Westinghouse so both businesses make $6M. Nevertheless, G.E. would try to do that because the business with the lower price in a competitive market, will have more demand. However, and according to collusion, the most logical thing to do between the two businesses is to set the price at $4000 so both of them will get a profit of $10M. In that case, G.E. will not pay Westinghouse anything.

2. Analyzing the demand function for FancyFoods restaurant:

a. A restaurant down the street is featuring a two for one mean special. This offer will cause a left shift in the demand for FancyFoods. Consumers get attracted to lower prices, such an offer will save consumers money. Mostly couples will want to switch from FancyFoods to Gourmet Meals.

Graph (1)

This graph shows how the demand curve shifts to the left. The most important part of this graph is to notice the shift from Q1 which represents the quantity demanded for FancyFoods, to Q2 which represents the quantity demanded after the consequences of the special offer by Gourmet restaurant. Q2<Q1. However, the shift might not be as big since the discount is not relatively high.

b. The opera provides a coupon for a 15% discount at FancyFoods for a meal with a 6:00pm reservation. This change will oppose the first change and switch the demand curve the right, meaning that the quantity demanded for FancyFoods restaurant will increase.

Graph (2)

A right shift will increase the quantity demanded; Q2>Q1.

c. Always Round Tire runs a special on tires; a 30 percent reduction in price if you buy four tires. This change will not cause any demand shift to FancyFoods restaurant because the two products are not related to each others.

d. The main employer in town provides a large increase in salaries for white-collar workers. "The term white-collar worker refers to a person who performs professional, managerial, or administrative work, in contrast with a blue-collar worker whose job requires manual labor." FancyFoods restaurant would be a nice place for white-collar workers, therefore, more people would want to work there and the demand curve will shift to the right, just like example (b). For more information, please see Graph (2).

3. Davis observes that the price of milk has fallen. He concludes that the total amount of money spent buying milk has to fall since the price of milk is lower.

I do agree with what Davis observed. Milk is a necessity, it is relatively inelastic; meaning that even if the price of milk changes, the demand for it will not significantly change. Lower price of milk does not mean that the consumer will buy more milk. It is only a certain amount that the consumer needs until milk expires. Expiration date actually plays an important role in the consumer's decision making.