Question

You are the manager of a firm that manufactures front and rear windshields for the automobile industry. Due to economies of scale in the industry, entry by new firms is not profitable. Toyota has asked your company and your only rival to simultaneously submit a price quote for supplying 100,000 front and rear windshields for its newest version of the Highlander. If both you and your rival submit a low price, each firm supplies 50,000 front and rear windshields and earns a zero profit. If one firm quotes a low price and the other a high price, the low-price firm supplies 100,000 front and rear windshields and earns a profit of $11 million and the high-price firm supplies no windshields and loses $2 million. If both firms quote a high price, each firm supplies 50,000 front and rear windshields and earns a $6 million profit.

a) Determine your optimal pricing strategy if you and your rival believe that the new Highlander is a “special edition” that will be sold only for one year. Show completed game table with all elements in it.

b) Is this an example of a prisoner's dilemma? Explain.

c) If you and your rival were required to resubmit price quotes year after year and if, in any given year, there was a 58 percent chance that Toyota would discontinue the Highlander, what would be equilibrium strategy? Is Collusion occur? Explain your decision by showing a profit of cooperation and profit of cheating.

Answer 1