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EC2023
JANUARY EXAMINATIONS 2009
Subject
ECONOMICS
Title of Paper
EC2023 BUSINESS MANAGEMENT AND STRATEGY
Time Allowed
One and One Half Hour (1 ½ Hours)
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Instructions to candidates
Answer TWO questions from the following four.
The approved calculator (that is, Casio FX-83ES or FX-85ES) may be used
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PLEASE TURN OVER…
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EC2023
1.
Consider the following payoff matrix:
Player 2
L
R
30
34
T
30
Player 1
24
24
20
B
34
2.
20
(a)
Find all Nash equilibria in the case players move simultaneously.
[25%]
(b)
Assume now that the game is sequential: player 1 moves first, and player 2 moves second after
having observed player 1’s move. Represent the sequential game with a game tree, and find the
subgame perfect equilibrium by backward induction.
[30%]
(c)
Assume again that the game is sequential, but now player 2 moves first, and player 1 moves
second after having observed player 2’s move. Represent the sequential game with a game tree,
and find the subgame perfect equilibrium by backward induction.
[30%]
(d)
Discuss the results obtained at the previous points, focusing on the comparison of the subgame
perfect equilibria obtained at points (b) and (c).
[15%]
Two firms in an industry are engaged in Bertrand competition. The industry inverse demand function
is p = 36 - 4Q, and the marginal cost is MC = 12 for both firms.
(a)
Find the Bertrand-Nash equilibrium.
[20%]
(b)
Assume now that the two firms simultaneously set prices an infinite number of time periods,
and focus on the monopoly price with equal sharing of the monopoly profit as a possible
collusive outcome. Find the collusive outcome and explain how firms can achieve it by using
trigger strategies.
[30%]
(c)
Suppose that both firms’ discount factor is δ = 0.55. Can collusion arise in equilibrium if the
two firms play trigger strategies? Comment on your answer.
[20%]
(d)
Suppose now that the infinitely repeated pricing game is played by three identical firms, each
of them having the discount factor δ = 0.55. Can collusion arise in equilibrium if the three
firms play trigger strategies?
[30%]
CONTINUED…
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EC2023
3.
4.
Firm 0 and Firm 1 produce the same physical product but are located at the opposite extremes of a
linear street of unit-length. The marginal cost of production is c = 1 for both firms. Consumers are
uniformly distributed along the unit-street, and their number is normalised to 1. Each consumer
wishes to buy one unit of the product, and incurs in a transportation cost t = 3 per unit of distance
from the location of any of the two firms. Firms compete in prices, p0 and p1 being the prices set by
Firm 0 and Firm 1 respectively.
(a)
Find each firm’s individual demand as a function of p0 and p1, and the best reply functions of
the two firms.
[20%]
(b)
Find the Bertrand equilibrium. Do firms have market power in equilibrium? Compare the
Bertrand equilibrium when products are differentiated with the standard Bertrand equilibrium
with perfect substitute goods, and discuss the effect of horizontal differentiation on the
intensity of product market competition.
[30%]
(c)
What the Bertrand equilibrium would be if t = 0? What the Bertrand equilibrium would be if
the two firms were located exactly in the same point of the unit-street?
[20%]
(d)
Briefly discuss the main strategic effects that would affect the location of the two firms along
the unit street in a more general model where firms first simultaneously set their locations, and
then compete in prices.
[30%]
Empirical evidence from several industries shows that periods of high prices alternate with periods
of low prices. Present and discuss the theoretical explanation of this cyclical pattern of prices as the
outcome of a repeated price game where periodical “price-wars” are played to sustain tacit
collusion in the presence of secret price cuts and market demand fluctuations.
[100%]
END OF PAPER
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