Name FARHAD

Registration Number 902-1909020

Course Title MANAGERIAL ECONOMICS
Session Spring 2020
Exam Terminal

Answer to Part I: Dominant Strategy and as well Nash Equilibrium

Iranian Saffron
Payoff Matrix
Enter Don’t

1M -2.2M
Enter
Afghanistan 1M -2.8M
Saffron 3.5M 0M
Don’t
0M 0M

We can say that game theory is a science of strategy.

Box one is the dominant strategy because it has high profitability for both producers with low risk
Box one is also Nash Equilibrium because it is the best probable gain for both and equal gaining
profit of 1Million for afghan and Iranian producers.

Answer A)
If I were the CEO of Afghan Saffron Exporter, Referring to above model afghan saffron would opt for
the following:
If Afghanistan out from the market
If Afghanistan in to the market

This is because the payoff for not entering the market is greater for afghan saffron than the payoff
for entering, if Iranian saffron exporter playing aggressively. Same logic to be applied for the 2 nd
strategy.

Answer B)
If I were an Iranian Saffron Producer, looking at the payoff table above the best response function
for me if Afghan saffron chooses to enter is to accommodate as (gain of 1 million is greater than loss
of 2.2 million of our manufacturer.
Answer C)
If you were Iranian Saffron Exporters CEO, as Iranian exporters have the highest payoff of $3.5
million when afghan exporters do not enter the market, thus I would choose to play aggressively so
that afghan exporters do not enter the market and we can earn monopoly profit of $3.5 million.

Answer D)
I would enter in to the market only if Iranian is accommodating.

Answer E)
Game theory in this case, helps both firms to decide how to increase their profit with maximization
in competition, it is good for Iranian to accommodate as they can make losses if they play
aggressively

Answer F)
The timing for decision making is very much important for afghan exporters to enter in to the
market of competition with Iranian producers as demand is high, by delaying in enter to the Iranian
market afghan exporters might lose this opportunity, in game theory the decision should be taken
on the basis of current market situation, below is the payoff matrix for Iranian and afghan exporters.

Dominant Strategy and Nash Equilibrium

Iranian Saffron
Payoff Matrix
Enter Don’t

1M -2.2M
Enter
Afghanistan 1M -2.8M
Saffron -2.8M 3.5M
Don’t
-2.2M 0M

Box one is the dominant strategy because it has high profitability for both producers with low risk
Box one is also Nash Equilibrium because it is the best probable gain for both and equal gaining
profit of 1Million for afghan and Iranian producers.

Answer G)
Game theory can be used very effectively as decision making tools for economically and for business
or personal settings, but in this case study game theory helps both side to take an economically
decision which will gain profit for both side by entering in to the market, as well as create much
more job opportunities, diplomatic relation will boost. It will be beneficial for both country’s
economic development in saffron sector, by joining each other in saffron sector both can produce
the saffron in world market as well in Middle East, in the other hand it’s effective for afghan saffron
exporters to get the opportunity of making international business deals with Iranian exporters.
Answer to Part II:
Part A:
Comparative Advantage does not mean to increase the size of production. Comparative Advantage is
to manage the opportunity cost of production. Increasing size of production is Absolute Advantage.

Country Shirts Computers

Combination of both Brazil 200 20
products before Italy 180 15
specialization
World Total 380 35
Combination of both Brazil 200-90 20+9
products After Italy 180+81 15-6.75
specialization World Total 371 37.25

Calculation Part:
Opportunity cost of Shirts for BRAZIL = Computer/Shirts = 20/200 = 0.1 computer or 1 shirt
Opportunity cost of Shirts for ITALY = Computer/Shirts = 15/180 = 0.083 computer of 1 shirt

Opportunity cost of Computer for BRAZIL = Shirt/Computer = 200/20 = 10 shirts or 1 computer

Opportunity cost of Computer for ITALY = Shirt/Computer = 180/15 = 12 shirts of 1 computer

Explanation:
The opportunity cost of producing one additional shirt for BRZAIL is 0.1 computer, it means that if
BRAZIL wants to produce one more shirt they have to compromise or leave producing 0.1 computer
for it.
Or the opportunity cost of producing one additional computer for ITALY is 12 shirts, it means that if
ITALY wants to produce one more computer they have to compromise or leave producing 12 shirts
for it.

Make Decision and Apply Comparative Advantage:

1 shirt = 0.1 computer for BRAZIL
1 shirt = 0.083 computer for ITALY

The lower the opportunity cost the higher you gain comparative advantage.
It means that ITALY has comparative advantage in producing shirts over BRAZIL, because the
relative opportunity cost of producing on additional shirt for ITALY is low.
ITALY has to specialize in shirts because of lower opportunity cost in shirts

1 computer = 10 shirts for BRAZIL

1 computer = 12 shirts for ITALY

It means that BRAZIL has comparative advantage in producing computer over ITALY, because the
relative opportunity cost of producing on additional computer for BRAZIL is low.
BRAZIL has to specialize in computers because of lower opportunity cost in computers.
 ITALY is specialized in shirts therefore BRAZIL has to decrease its shirts production by 45% and
increase its computer production by 45% same for ITALY has to decrease its computer production
by 45% and increase its shirts production by 45% because of their comparative advantages over
one another in each product.

45% of (200 shirts) = 90 45% of (180 shirts) = 81

45% of (20 computers) = 9 45% of (15 computers) = 6.75

At 45% rate, Italy will produce (0.45 * 180 = 81 shirts)

At 45% rate, Brazil will produce (0.45 * 20 = 9 Computers)

With specialization the size of world total supply has increased without adding any production
factor. Before specialization using the same production factor the world supply size of computer
was (35) and for shirt it was (380) but after specialization again using the same production factor
the world supply size of computer increased to37.24 and for shirt it decreased to 371.
If the production of any product decreased doesn’t matter, because as per comparative advantage
law it doesn’t consider the size of production.

Graphical Presentation:

Shirts Shirts

200 200 400 Brazil + Italy = world

Brazil Italy 380
World total supply
300 without specialization or
150 150 exchange

100 200
100

50 100
50

Computers computers
5 10 15 20 5 10 15 20 10 20 30 40

Shirts Brazil + Italy = world

World new total supply with
400 specialization or exchange
380

300
The loss of shirt production size from world supply

200

100

Specialization effects
computers

10 20 30 40
Part B:

Opportunity Cost Country TV Shoes

Combination of both India 3 15
products before China 4 18
specialization
World Total 7 33

Graphical presentation:

TV TV TV
India China 7 Inida + China = world
3 World total supply
without specialization or
4 exchange

Shoes shoes shoes

15 18 33

Calculation Part:
*****
Opportunity cost of TV for India = shoes/TV = 15/3 = 5 or 1TV = 5 shoes
Opportunity cost of TV for China = shoes/TV = 18/4 = 4.5 or 1TV = 4.5 shoes

Opportunity cost of shoes for India = TV/shoes = 3/15 = 0.2 or 1shoe = 0.2 TV
Opportunity cost of shoes for China = TV/shoes = 4/18 = 0.22 or 1shoe = 0.22 TV
Explanation:
The opportunity cost of producing one additional TV for INDIA is 5 shoes, it means that if INDIA
wants to produce one more TV they have to compromise or leave producing 5 shoes for it.
Or the opportunity cost of producing one additional Shoe for China is 0.22 TV, it means that if CHINA
wants to produce one more shoe they have to compromise or leave producing 0.22 TV for it.

Make Decision and Apply Comparative Advantage:

1 TV = 5 shoes for INDIA
1 TV = 4.5 shoes for CHINA

****
Therefore the opportunity cost of producing TV in terms of shoes is more in India than china, in
absolute terms also the cost of producing TV is greater in India than china.

****
As we can see in opportunity cost and cost of TV in the table it clearly shows that TV doesn’t cost
less in India than china.

****
If both countries decide to trade, as India is specialized in shoes production and china is specialized
in TV production therefore India would export shoes and China would export TV.

***
Opportunity cost of TV for India = shoes/TV = 15/3 = 5 or 1TV = 5 shoes
Opportunity cost of TV for China = shoes/TV = 18/5 = 3.6 or 1TV = 3.6 shoes

Opportunity cost of shoes for India = TV/shoes = 3/15 = 0.2 or 1 shoe = 0.2 TV
Opportunity cost of shoes for China = TV/shoes = 5/18 = 0.27 or 1 shoe = 0.27 TV

When China could produce 5 TV, the opportunity cost of producing TV will go down to 18/5 = 3.6.
Since the production of TV is even cheaper now, it would still export TV and India would export
shoes.  

Opportunity Cost Country TV Shoes

Combination of both India 3 15
products before China 5 18
specialization
World Total 8 33