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Acme and AAA are the two major firms in the industry. Each must decide whether
to conduct a television advertising campaign. The returns from each firm’s decision
depend on the decision of the other. The profits resulting from each possible
combination of the firms’ decisions are given in the payoff matrix above.
3. If AAA advertises and Acme does not, Acme will make how much as a result of
their advertising?
a. –$100
b. $0
c. $150
d. $300
e. $400
Question 2
Two firms in a market can choose whether to set prices high or low. If both firms keep
prices high, the firms earn more than if both firms keep prices low. However, if one firm
can lower prices while the other keeps prices high, the low-price firm will get all of the
market’s sales and will make higher profits than when both firms keep prices high.
a. Is this a “prisoner’s dilemma” situation? Explain why or why not (i.e., define a
prisoner’s dilemma and then show why this situation does or does not fit the
definition).
b. If the two firms were to enter a voluntary agreement to keep their prices high,
is it likely to result in higher prices for the two firms? Why or why not?