Refer to the normal-form game of price competition in the payoff matrix below. What is the maximum interest rate that can sustain collusion?
A) 30 percent
B) 15 percent
C) 66.7 percent
D) 20 percent

Question

Refer to the normal-form game of price competition in the payoff matrix below.  What is the maximum interest rate that can sustain collusion?
A) 30 percent 
B) 15 percent 
C) 66.7 percent 
D) 20 percent

Quizplus · Accepted Answer

In order for collusion to be sustained, the firms must choose the high price (H) strategy. This results in a higher pay-off for both firms (4,4) than the Nash equilibrium outcome of both choosing the low price (L) strategy (2,2). The maximum interest rate that can sustain collusion is the highest interest rate at which both firms still prefer to collude rather than unilaterally deviating to the low price strategy. In this game, the maximum interest rate that can sustain collusion is 66.7% or 2/3. At this interest rate, both firms prefer the pay-off of (3,3) by colluding rather than the pay-off of (4,2) or (2,4) by deviating to the low price strategy.

Refer to the Normal-Form Game of Price Competition in the Payoff