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10 in any Nash equilibrium.
(441) Suppose again that p, = Py = pvis a Nash equilibrium.
If p* > 100-2k and firm 1 sets py =p» then firm 2 sells quantity
*
100-2
2
:
win(s0 - Bk) Af it also charges price p*. as 50-2 < 50 -
firm 2's capacity constraint is not binding. If firm 2 were to cut its price
*
to p*-« it would lose «(50 -- } on the units it currently sells. This loss
30 as 90. Firm2 also gains
ten fainaor-cl-0.00-(90 -F]]
As € 40, this gain does not go to zero (because the capacity constraint was
not binding) so for small enough ¢, it is profitable to deviate and play
= p” was not a Nash equilibrium
2
Ee *
T£ p* < 100-2k, 50 - B- > k so each firm's capacity constraint is
Pee. Thus, py ~ P,
binding. For ¢ small enough, it is easy to verify that with firm 1's price
fixed, firm 2 can raise its price from p" to p'te and still sell k units.
This is a profitable deviation so py = Py ~ p* is not a Nash equilibrium.
(v) Finally, we now show py = py = p* = 100-2k is not a Nash equilibrium so
no pure strategy Nash equilibrium exists.
Suppose p, is fixed at p™ = 100-2k. If firm 2 sets p, = p* we have seen
that it has ptofit k(p*-10). If firm 2 deviates and sets its price at p'+e
its profit is
(p*+e-10)Min(100-K(p*+e),k) = (p*-10#E) (ke)
= (p*=10)ktek-e(p*-10) .
This deviation is profitable ifk > p*-10 = 100-2k-10
which is true for k > 30. Under the assumptions of the problem, ve have then
shown that there can be no pure strategy equilibrium,
Exercise 1.5
Suppose management offers s). If the union responds with s, = s, its
1
offer is accepted
© |sg-891 < 194-491
;
e897
(B22),
and the union's expected utility is
anteyny = EE fu EZYIoy
Suppose (sf,24) 4s a Nash equilibriua, then sf must aaxtaize che expression
above which gives the first-order condition
*
Hee bE at
= nsf E/E
Similarly, if s) is fixed and management offers s, < 5, they have expected
sovey oft feo EE
which gives the first-order condition
so SYS
5
]e-0
utilityi.e., management chooses an offer below that of the union until the gain from
lowering s, and getting a better contract when they win,
Pale 7
182
“(2 Jo,
2
ey eaters ett enal tose roe innecraf eee test eee arcane
Ae
tetstyp[ C2 ot
$9°5,)P 2 2
Each first-order condition gives us an expression for s».
equate these two expressions we see
‘The left and right sides of this equation are precisely the probability of
the union's and of management's offer being accepted.
If sy {8 uniform on [-1,1]:
stl 1
Ps) = p(s) 5 -
atts)
The previous result (22 =} gives us
2
sits,
182
ere ee
z S17 82
Now, substituting for P and p and using 3 . 1 in the first-order condition
for the union gives
este nl o tea ete
Pn spt 2 om spat spet.
Exercise 1.6
(D,R) is clearly a Nash equilibrium so we know the game has at least one
Nash equilibrium.
10To show uniqueness, we follow the steps in the hint:
(1) There are no other pure strategy equilibria.
This follows simply from examining the other eight pure strategy
Profiles, e.g., (U,L) 1s not a Nash equilibrium, as player 2 would prefer to
Play M or D when his opponent plays U.
(2) Player 1 can‘t put positive weight on both U and M. Player 2 can’t put
positive weight on both L and M.
Suppose in a Nash equdilibrium, player 2 plays L, M and R with
Probabilities p), q), andr). Player 1's payoffs are then
Po-2a, if he plays U,
-2p)ta, if he plays M,
ry if he plays D.
Player 1 can only put weight on both U and M if each is a best response.
Thus, we must have
Pp-2ay = -2P9¢ag => Pp =a, -
In this case, though the payoff to each of U and M is negative while the
Payoff to D is non-negative (or 0 and positive if r, = 1). Thus, neither U
nor M was a best response. The claim for player 2 is similar.
(3) No mixed equilibrium is possible.
We can only have a mixed equilibrium if player 1 puts positive weight on
2 or more strategies.
Suppose he plays U with probability p) > 0 and D with probability
1p, > 0. Then, player 2 has payoffs (-2p,, py, 1-p,) to L, M, and R.
The only possible mixed strategy for 2 is then to mix on M and R.
Suppose he plays M with probability q, = 0. Then player 1 has payoffs (-2q),
4, 1-42) to U, M, and D. In this case, player 1 is not playing a best
response when he plays U with positive probability.
1A similar calculation shows that player 2 cannot put positive weight on
2 or more strategies so no mixed equilibrium exists.
Exercise 1.7
Let #, denote the true type of consumer {. Suppose all individuals
other than i announce some @_
{When individual { chooses an announcement
84, the realized decision is <= x"(1,....d)). Consumer i's utility is
RAV 08.) # DV Oe8y) = G0 = ky +E VV G.84)-c00
Jat Jj
= at
5 j
-6, gate
The largest possible value for this expression is clearly obtained for
x= x8,.8 4)
Player i can achieve this best possible payoff by announcing #, = 0,.
Assuming strict concavity, truthtelling is a strict best response ané
thus dominates any other strategy.
Exercise 1.8
(a) As there are a continuum of consumers each has no effect on the fraction
£ who choose to withdraw when everyone else’s action is held fixed. Suppose
only consumers dying at date 1 withdraw their money at that date. Then
*
* (x09
fry -xey -1-— p41
A customer who dies at date 1 has
17%, tf he withdraws,
= 0 if he does not.
Thus, he clearly wants to conform to his strategy.
A customer who does not die has
ec], ¢) = 0 if he withdraws at 1,
12.
) =e) - 3
E
eee feet ete etree fee mee fees ee
aleo prefers to conform to his strategy of net withdrawing.
(b) Another Nash equilibrium is f = 1.
Regardless of an individual's actions, if alt others withdraw at date L
chen fr, = cf > 1. Hence,
©, 7 1/f, c= 0 if he withdraws at date 1.
cyte, = 0 if he does not withdra
Thus, cach type of player has a higher utility if he withdravs at date 1 so
all players prefer to follow this prescribed strategy and we have a Nash
equilibrium.
() The payoffs in this game are similar to the stag hunt. If all play
the "good" strategy (deer hunting or not withdrawing unless necessary) the
social optimum is achieved. There is also, however, a "bad" equilibrium in
each game. Once enough players are playing the "bad" strategy the other
players are forced to do so as vell.
Exercise 1.9
(a) Assume that p(q,,4)) ~ a-b(a,+a,) for a, = 0, a) 20, a, + 4) 5 a/b.
When is player 1's reaction function given by the solution to the first-order
conditions?
Fix q) € (0,2). Note first that
au
+ ex(qy) -
2 14!
aay
If marginal cost is increasing or constant this expression will be negative
for all q, € (0,
49). Hence, any interior solution to the first-order
conditions is the best response.
3We can only be sure that the first-order condition will have a solution
1£ the boundary conditions
%p 92
are satisfied, The second boundary condition is
a= Blan +E - ag) - EE - ay) - eG - a) <0,
which is satisfied for c}(? - q)) 2 0. However, the first boundary condition
a= bay - 64(0) > 0
need not hold, for example, if we have constant marginal costs. With
constant marginal costs the best response will be
ry (4) = 0
2 oe
for q) sufficiently close to a/b. If, for example, c,(q,) = cay $0 ¢4(4))
= 0 the boundary condition is satisfied and the first-order condition has a
solution.
(b) Now, suppose all the firms are identical and have cost functions
ea) = cay -
‘The Nash equilibrium is the solution to the first-order conditions
(a - dEq,) - bay - 20.
95) ~ bay
This equation can only hold for all i if all of the firm's outputs are
identical. The common output q* must satisfy
a - (IHl)q” - = 0
*
a
TH
In this Nash equilibrium the price is
atIc
pt) a+ gh = SATE,
As I > @ the price tends to the competitive level c.
Exercise 1.10
(a) The strategy space for player i is
15, (0,8)
each farmer can choose to raise any non-negative number of cows. The
Payoff functions are given by
ay (sys
1p) 7 SyV(5yt89t...48)) = se,
the difference between the revenue farmer i's cows produce and their cost.
(>) Given production n_, by the other farmers, ve determine player i's
reaction by maximizing his payoff. To maximize u,(n,,n_,) we must find the
solution so the first order condtetons at an interntor point my € [0.N- J ny)
gat
(4f a solutton exists) and check the possible boundary solutions ny = 0 or
Ne Tiny. Note that ny >No J ny cannoe be che best response if char
jai J jai
value is positive as this produces negative profits.
‘The first order condition is the familiar marginal revenue = marginal
cost condition
4 vinyte. tmp) + ayy (nyt. tn) se
Let ry(n_,) be the solution to this equation. as the payoff function is
concave in (0,N- [nj], if @ solution r,(n_,) exists it is the best response.
gad ay
TE no solution exists, the best response is to set n, = 0 as n, = N- J x
Sei
always produces negative profits.
We have a symmetric Nash equilibrium if all players are playing a best
response, i.e. if
* * oe
rtm. .jn*) on “i
Looking for an equilibrium with n" > 0, n* must satisfy player i's first
order condition
* a es *
vin't...4n") + n'y (nb. .tn®) = ©
1sor v(In*) +n (In') =e.
Ié v(0) > ¢, this equation aust have a solution for some n* € (0,N/I) because
v(0) + Ov" (0) > €
V(LN/T) + (Y/Y (N/T) <0 a) or for firm 2 to produce 4) > a.
In the next round of iterated dominance we note that if firm 2 never
produces q, > 49, firm 1's best response is alvays at least g? for soue
go> 0. g) cam be defined similarly.
In the next round of iterated dominance use 2 > q) co show that player
L's bese response is sf and so again any a) > ah ts strictly dominated.
Repeating this process, @\ approaches firm 1's output at D snd a
approaches firm 1’s output at B.
Exercise 2.5
First note that if all other farmers choose outputs which result in a
25price p, farmer { will assume that his output has no effect on price, so he
maximizes
re
Pa -
and thus has q(i) = ip as his best response to price p.
Round 1: As all outputs must be non-
jegative, p < a/b must result
regardless of each farmer's strategy.
Hence, farmer 1's best response 1s always s ip.
As in problem 2.4, the farmer's payoff is concave so producing q(1) >
dominated by producing q(i) =
Round 2: Assume that any q({) > ix is dominated for all i. Then, when
everyone plays an undominated strategy:
i
+ bp = D(p) = fF qcsre(et
t
i
s J if(i)xdi
:
= kx.
Thus, p=
oie
8
- Kx so player i's best response is always at least if _ By).
and we can conclude that any q(i) < (2 5 5) is dominated for player 1.
Round 3: Assume q(i) < iy is dominated. Then when others play undominated
strategies a - bp & ky gives us that any
waft - 5]
is dominated. I£ we apply round 2 then 3 we see q > ix dominated implies
that
is dominated. Repeating this process we s
2 aN
eee «i
a> ag -E+S-. +k
Blt bt az ou
that any
26is dominated. Applying Round 3 to this value, any
2 2 2
a kk k k’
aeit eB EE ee
gO -E+5 on St
fa asecmeeast pepettieginccnna feria eee eee oe eee
2
wo gg.
whenever b > k and the series converg
Now, suppose b =k. If we follow the same process as before the
Intttal step that q(t) > @ is dominated gives us next that
aw