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(Mrs) Chi Ching R.G.
P/T Lecturer
Email: cckwj@singnet.com.sg
MITHM
James Cook University Singapore
TO5202: Economic Decision-
Making in the Hospitality Industry
Week Topic/s (chapters) Week Topic/s (chapters)
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Lecture 1: Intro to Tourism, Hospitality
& Leisure Org (Ch 1 & 2)
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Lecture 7: Investment in the Private &
Public Sectors (Ch 10 & 11)
2
Lecture 2: The Market for Tourism,
Hospitality & Leisure Products (Ch 3)
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Lecture 8: Income, Employment &
Prices (Ch 12); Presentations
3
Lecture 3: Demand & Supply;
Elasticity (Ch 4 & 5
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Lecture 9: Economic Development &
Regeneration (Ch 13); Presentations
4
Lecture 4: Market Structure & Pricing
(Ch 6)
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Lecture 10: The Balance of Payments
& Exchange Rates (Ch 14)
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Lecture 5: Market Intervention (Ch 7)
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Lecture 11: Globalization (Ch 15)
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Lecture 6: The Environment (Ch 8 &
9)
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Lectures 12 & 13: Environmental
Impacts (Ch 16 & 17); TOURISM
PROJECT DUE
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(Mrs) Chi Ching R.G.
P/T Lecturer
Email: cckwj@singnet.com.sg
LECTURE 5:
Oligopoly &
Game Theory
MITHM
James Cook University Singapore
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Oligopoly
Oligopoly is a market structure dominated
by a few large producers of homogeneous
or differentiated products.
Because of their fewness, oligopolists
have considerable control over their price.
Examples: tires, beer, cigarettes, copper,
greeting cards, steel, aluminum, automobiles
and breakfast cereals
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Characteristics of Oligopoly
A few large producers firms are
generally large and together they
dominate the industry.
Either homogeneous or differentiated
products the products are
standardized, or differentiated with
heaving advertising.
Price maker the firm can set its price
and output levels to maximize its profit.
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Characteristics of Oligopoly
Strategic behavior Self-interested
behavior that takes into account the
reactions of others.
Mutual interdependence each firms
profit depends not entirely on its own
price and sales strategies but also on
those of the other firms.
Blocked entry barriers to entry exist
which make it hard for new firms to enter.
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Game Theory
Game theory is the study of how people
behave in strategic situations.
Strategic decisions are those in which
each person, in deciding what actions to
take, must consider how others might
respond to that action.
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Because the number of firms in an oligopolistic
market is small, each firm must act strategically.
Each firm knows that its profit depends not only on
how much it produces but also on how much the
other firms produce.
The prisoners dilemma provides insight into the
difficulty in maintaining cooperation.
Often people (firms) fail to cooperate with one
another even when cooperation would make them
better off.
Game Theory
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Prisoners dilemma
Two individuals commit a serious crime
together and are apprehended by police
They know there is insufficient evidence to
convict them of the serious crime.
There is enough evidence to convict them of
loitering which carries a lesser prison
sentence.
Each prisoner is interrogated separately with
no communication between them.
Game Theory
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Prisoners dilemma, cont:
Police tell them that if one of them confesses
he will receive a suspended sentence while
the other will receive the maximum sentence.
If both talk then they will each receive a
moderate sentence.
What will each suspect do?
Game Theory
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The Prisoners Dilemma
The prisoners dilemma is a particular
game between two captured prisoners
that illustrates why cooperation is
difficult to maintain even when it is
mutually beneficial.
Game Theory
Figure 1 The Prisoners Dilemma
Copyright2003 Southwestern/Thomson Learning
Bonnie s Decision
Confess
Confess
Bonnie gets 8 years
Clyde gets 8 years
Bonnie gets 20 years
Clyde goes free
Bonnie goes free
Clyde gets 20 years
gets 1 year Bonnie
Clyde gets 1 year
Remain Silent
Remain
Silent
Clydes
Decision
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The Prisoners Dilemma
The dominant strategy is the best
strategy for a player to follow regardless
of the strategies chosen by the other
players.
Cooperation is difficult to maintain,
because cooperation is not in the best
interest of the individual player.
Game Theory
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The Prisoners Dilemma
Confessing is a dominant strategy for each player.
This is the best strategy no matter what the other
player chooses
Equilibrium
Each player have no incentive to unilaterally change their
strategy.
Game Theory
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Oligopoly Behavior: A
Game-Theory Overview
Game theory is the study of how people or
firms behave in strategic situations.
It can be used to analyze the pricing behavior of
oligopolists.
Suppose in a two-firm oligopoly (a duopoly), each
firm must chose a pricing strategy, high or low.
A payoff matrix can be constructed to show payoffs
(profit) to each firm that result from each
combination of strategies.
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Game Theory Example
Two firms, A and B,
must decide on a pricing
strategy: price high or
price low.
Although firms A and B are
mutually interdependent,
both can benefit from
collusion. However, there
may be incentive to cheat.
Firm A
F
i
r
m

B
Price High Price Low
Price
High
Price
Low
$12
$12
$8
$8
$6
$6
$15
$15
B
A
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Mutual Interdependence
Each firms profit depends on its own
pricing strategy and that of its rival.
In the example, if both firms adopt a high-
price strategy, each firm will earn $12 million;
if both adopt a low-price strategy, each will
earn $8 million. If one firm adopts a low-price
strategy while the other adopts a high-price
strategy, the low-price firm will earn $15
million while the other firm earns $6 million.
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Collusive Tendencies
Oligopolists can often benefit from
cooperation, or collusion.
Collusion is a situation in which firms act
together and in agreement to fix prices, divide
markets, or otherwise restrict competition.
In the example, firms A and B can agree to
establish and maintain a high-price strategy so
each can earn $12 million.
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Incentive to Cheat
Oligopolists might have an incentive
to cheat on a collusive agreement if
they can benefit from such action.
In the example, suppose firms A and B
agree to establish and maintain a high-
price strategy. Either firm can cheat
and lower its price in order to increase
profit to $15 million (a $3 million
increase).
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Incentive to Cheat
Because of possible incentives to
cheat, independent action by
oligopolists may lead to mutually
competitive low-price strategies,
which benefit consumers but not the
oligopolists.
In the example, firms A and B will choose
a low-price strategy and earn $8 million
each.
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Game Theory
(Low/Low) is a
stable
equilibrium. No
incentive for
either firm to
deviate.
Better off at
(High/High) but it
is not stable.
Each firm has an
incentive to
deviate.
Efficiency implies that
there is no other strategy
pair that would make one
player better off and no
player worse off.
(Low/Low) is not efficient.
(High/High) is efficient.
(High/High) would be an
equilibrium if the firms
were allowed to cooperate.
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Repeated Game
The game is played over and over.
In a repeated game, equilibria that are not
stable may become stable due to the threat
of retaliation.
Game Theory
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Restraint of Trade and the Antitrust
Laws
Antitrust laws make it illegal to restrain
trade or attempt to monopolize a
market.
Sherman Antitrust Act of 1890
Clayton Act of 1914
Game Theory
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Controversies over Antitrust Policy
Antitrust policies sometimes may not
allow business practices that have
potentially positive effects:
Resale price maintenance
Predatory pricing
Tying
Game Theory
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Controversies over Antitrust Policy
Resale Price Maintenance (or fair trade)
occurs when suppliers (like wholesalers) require
retailers to charge a specific amount
Predatory Pricing
occurs when a large firm begins to cut the price of
its product(s) with the intent of driving its
competitor(s) out of the market
Tying
when a firm offers two (or more) of its products
together at a single price, rather than separately
Game Theory