In our example, collusion rather than a price war would

have benefited both firms. Yet, even if they did collude, both would
be tempted to cheat and cut prices. This is known as the
prisoners' dilemma.

Definition: Nash Equilibrium The position resulting from

everyone from everyone making their optimal decision based on
their assumptions about their rivals‘ decisions. Without collusion,
there is no incentive or any firm to move from this position.

Definition: Prisoner‟s dilemma Where two or more firms (or

people), by attempting independently to choose the best strategy
for whatever the other(s) are likely to do, end up in a worse
position than if they had co-operated in the first place.

2.5 THE PRISONER‟S DILEMMA:

Game theory is relevant not just to economics. A famous non-

economic example is the prisoners' Nigel and Amanda have been
arrested for a joint crime of serious fraud. Each is interviewed
separately and given the following alternatives:

■ First, if they say nothing, the court has enough evidence to

sentence both to a year's imprisonment.
■ Second, if either Nigel or Amanda alone confesses, he or she
is likely to get only a three- month sentence but the partner
could get up to ten years.
■ Third, if both confess, they are likely to get three

Figure 2.4

WHAT SHOULD NIGEL AND AMANDA DO?

Let us consider Nigel‘s dilemma. Should he confess in

order in order to get the short sentence (the maximax strategy)?
This is better than the year he would get for not confessing. There