ECO400: Decisions, Strategy and Information

Exercise sheet II.2

Strategic interaction II

Exercise 1: Consider a repeated game in which the following simultaneous-move game

is played twice:
-

b1 b2 b3
a1 11, 11 1, 12 0, 13
a2 12, 1 5, 5 0, 0
a3 13, 0 0, 0 2, 2

Prior to the second play of the game, the players observe the actions chosen in the first
play of the game. Suppose the players do not discount future payo↵s. What are the
pure strategy subgame perfect Nash equilibria of this game?

Exercise 2: There are two firms that produce a homogeneous good and each firm’s
marginal production cost is c (there are no fixed costs). Firms compete for customers by
setting prices simultaneously. Suppose that a firm can attract all customers whenever
its price is below the competitor’s price, i.e. there are no capacity constraints. When
the firms’ prices are equivalent, each firm serves half of the demand. Hence,
8
>
> D(pi ) if pi < pj
>
<
Di (p1 , p2 ) = 12 D(pj ) if pi = pj
>
>
>
:0 if pi > pj

a) What is the Nash equilibrium if the firms interact only once?

b) What is the subgame perfect Nash equilibrium if firms repeat the game for T
periods?

c) Suppose the game is infinitely repeated and firms discount future profits with
the discount factor . Under which condition is it possible for firms to sustain
monopoly profits in each period as a subgame perfect Nash equilibrium?

!
u1
Exercise 3: Consider the following game in extensive form where are the re-
u2
spective payo↵s of the two players:

Mohammed Mardan and Justin Valasek NHH

ECO400: Decisions, Strategy and Information

a) What are the strategies of players 1 and 2?

b) What is the subgame perfect Nash equilibrium of the game?

c) Represent the dynamic game in the normal form.

d) Determine all Nash equilibria in pure strategies. Are all Nash equilibria plausible?

Mohammed Mardan and Justin Valasek NHH