Suppose that each of the only two firms in an industry has the independent choice of advertising its product or not advertising.If neither advertises, each gets $10 million in profit; if both advertise, their profits will be $5 million each; and if one advertises while the other does not, the advertiser gets profit of $15 million and the other gets profit of $2 million.According to game theory, if the firms could collude to maximize profit:
A)both may or may not advertise.
B)one will advertise and the other will not.
C)both will advertise.
D)neither will advertise.

Question

Quizplus · Accepted Answer

If the firms collude and neither advertises, they will each earn a profit of $10 million, which is higher than what they would each earn if they both advertise ($5 million each) or if one advertises while the other does not (advertiser earns $15 million, non-advertiser earns $2 million). Therefore, the best choice for the firms to maximize profit while colluding is for neither to advertise.

Suppose That Each of the Only Two Firms in an Industry