The market for bagels contains two firms: BagelWorld (BW) and Bagels'R'Us (BRU). The owners of the two firms decide to fix the price of bagels. The table below shows how each firm's profit (in dollars) depends on whether they abide by the agreement or cheat on the agreement. Suppose the game above is repeated every day, and both firms adopt the following strategy: cooperate on the first day, then if the other firm cheats, cheat the next day, and if the other firm abides, abide the next day. This type of strategy is likely to increase the probability that:

Question

The market for bagels contains two firms: BagelWorld (BW) and Bagels'R'Us (BRU). The owners of the two firms decide to fix the price of bagels. The table below shows how each firm's profit (in dollars) depends on whether they abide by the agreement or cheat on the agreement.  Suppose the game above is repeated every day, and both firms adopt the following strategy: cooperate on the first day, then if the other firm cheats, cheat the next day, and if the other firm abides, abide the next day. This type of strategy is likely to increase the probability that:

Quizplus · Accepted Answer

Adopting the tit-for-tat strategy is likely to increase the probability that both firms abide by the agreement, as long as both firms perceive that the other is committed to the strategy. If one firm cheats, the other firm will cheat the next day, but then resume abiding the day after that. This will create a situation of mutual cooperation, where both firms benefit from respecting the agreement. However, if one firm perceives that the other is not committed to the strategy, it may feel incentivized to cheat permanently or to increase its profits in the short-term. Therefore, the success of the tit-for-tat strategy relies on the ability of the firms to signal their commitment and trust to each other.

The Market for Bagels Contains Two Firms: BagelWorld (BW) and Bagels'R'Us