Understanding Oligopolies: Market Structure, Game Theory, and Cooperation
Classified in Economy
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OLIGOPOLY
A market structure characterized by a small number of sellers, each offering products that are similar or identical to those of their competitors. Examples of oligopolistic industries include chocolate bars, brewing, banking, oil, and supermarkets.
CONCENTRATION RATIO
The proportion of the total market share held by the top firms in an industry. For instance, a five-firm concentration ratio of 80% indicates that five companies control 80% of the market share.
GAME THEORY
The study of how individuals make decisions in strategic situations, considering the potential responses of others to their actions. Game theory is crucial for understanding oligopolies, as firms in these markets must act strategically due to the limited number of competitors.
THE PRISONER'S DILEMMA: SELF-INTEREST VS. COOPERATION
A classic example in game theory that illustrates why rational individuals might not cooperate, even when it appears to be in their best interests. The scenario involves two criminals, Jim and Matt, who are apprehended. The police offer them a deal: if both remain silent, they each receive a one-year sentence. If both confess, they each get eight years. However, if one confesses while the other remains silent, the confessor goes free while the silent one receives a three-year sentence. Ultimately, both confess and receive the eight-year sentence, a worse outcome than if they had both remained silent. This demonstrates the conflict between self-interest and cooperation.
WHY COOPERATION OCCURS
Individuals may choose to cooperate to avoid the worst possible outcome, even if it means sacrificing the maximum potential benefit. Cooperation can be encouraged through penalties or threats that deter counter-players from taking risky actions that could harm others.
NASH EQUILIBRIUM
A situation in which each player's strategy is the best response to the strategies chosen by the other players. In a pure-strategy Nash equilibrium, all players choose a single, unchanging strategy.