Question

	Alcoa
		High price	Low price
Kaiser	High price	A $400, $500	B $175, $575
	Low price	C $525, $200	D $273, $250
		Payoffs in millions of dollars of profits per month.

Alcoa and Kaiser, duopolists in the market for primary aluminum ingot, choose prices of their 500 foot rolls of sheet aluminum on the first day of the month. The following payoff table shows their monthly payoffs resulting from the pricing decisions they can make.

• Is the pricing decision facing Alcoa and Kaiser a prisoners’ dilemma? Why or why not?
• What is the cooperative outcome? What is the noncooperative outcome?
• Which cell(s) represents cheating in the pricing decision? Explain.
• If Alcoa and Kaiser make their pricing decision just one time, will they choose the cooperative outcome? Why or why not?

Answer 1

The pricing decision faced by the two firms is indeed prisoners dilemma . all the other outcomes based on the pay off strategies the payoff D (low price -low price ) is the pareto outcome.

co-operative outcome would be charging A (high price-high price) as if they both mutually decide on charging higher price it is beneficial for both of them

Cells C and B would mean cheating in the pricing decisions . As if one initially agrees to charge high price but eventually charges low then that firm would cheat to reap the benefit of the situation and as a result of which it would earn a much larger pay off . While the other firm who did not cheat and stood by the mutually agreed upon co-operative strategy will have substantially low payoff.

If Alcoa and Kaiser make their pricing decision just one time , they will choose the cooperative outcome of A charging high price since payoff is higher than D .