Question

Consider the following payoff matrix for two firms, Airbus (A) and Boeing (B). The firms can each produce either 3 or 4 planes per week. The table below shows the profit from each of those options. Each firm knows all the information in the table below. They each make their decisions independently.

		Airbus's Options
		4 planes per week	3 planes per week
Boeing's Options	4 planes per week	A = $32 million B = $32 million	A = $30 million B = $40 million
	3 planes per week	A = $40 million B = $30 million	A = $36 million B = $36 million

A. Suppose Boeing knew that Airbus would make 3 planes per week. What would Boeing do? Explain.

B. Suppose Boeing knew that Airbus would make 4 planes per week. What would Boeing do? Explain.

C. How many planes will each firm produce?

Answer 1

A. If Boeing knew that Airbus would make 3 planes per week , Boeing will always choose to make 4 palnes per week. As Boeing already has the information about competitior's choice, it will always choose the option, where it can maximise its profit. If Boeing chooses to maek 3 planes as well, it will only have $36 million profit. So now if we consider the above pay off martix , we can see that if Airbus makes 3 planes per week and earn $30 mllion profit, Boeing can maximsie its profit by choose to make 4 planes per week and earn $40 million profit and surpass Airbus by $10 million profit. So we can conclude that Boeing will choose (Top,Right) to maximise its profit.

B.Now, if Boeing knew that Airbus would make 4 planes per week, Boeing will choose to make 4 planes as well, to maximise its profit, or it would lag behind Airbus in terms of proft. If Boeing would choose to make 3 planes per week, it would gain only $30 million profit. Where as, Boeing can earn $32 million profit by making 4 planes per week. So, considering the pay off matrix, Boeing will choose (Top, Left) to maximise its profit.

C. If each firm agrees to co operate each other or in case if both firms do not know about opponent's choice, then each will produce 3 planes per week and gain $36 million profit. Because, if both firms will produce 4 planes per week, each will gain $32 million profit. With no information about opponent's decision, each will produce 3 planes per week. Considering the above payoff matrix, both firms will choose (Down,Right) . So we can say, Nash equilibrium occurs at (Down,Right).