# 10.2 Oligopoly  (Page 11/19)

 Page 11 / 19
• Card 11 / 19:
Sometimes oligopolies in the same industry are very different in size. Suppose we have a duopoly where one firm (Firm A) is large and the other firm (Firm B) is small, as shown in the prisoner’s dilemma box in . Firm B colludes with Firm A Firm B cheats by selling more output Firm A colludes with Firm B A gets \$1,000, B gets \$100 A gets \$800, B gets \$200 Firm A cheats by selling more output A gets \$1,050, B gets \$50 A gets \$500, B gets \$20 Assuming that the payoffs are known to both firms, what is the likely outcome in this case?

Firm B reasons that if it cheats and Firm A does not notice, it will double its money. Since Firm A’s profits will decline substantially, however, it is likely that Firm A will notice and if so, Firm A will cheat also, with the result that Firm B will lose 90% of what it gained by cheating. Firm A will reason that Firm B is unlikely to risk cheating. If neither firm cheats, Firm A earns \$1000. If Firm A cheats, assuming Firm B does not cheat, A can boost its profits only a little, since Firm B is so small. If both firms cheat, then Firm A loses at least 50% of what it could have earned. The possibility of a small gain (\$50) is probably not enough to induce Firm A to cheat, so in this case it is likely that both firms will collude.

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