MID SEMESTER EXAMINATION SEMESTER I 2022-23

GAME THEORY AND ITS APPLICATIONS (BITS F314)

Writing time: 4.00 PM to 5.30 PM Total Marks: 7 QUESTIONSx5=35 marks

Q1. A homeowner is selling her house by auction. Two bidders place the same value on the house at
$100,000, while the next bidder values the house at $80,000.
a) Should the home owner use a first-price or second-price auction to sell the house, or does it
matter?
b) Should the home owner use a first-price or second-price auction to sell the house, if the highest
valuation is $100,000, the next is $95,000 and the rest are no more than $90,000?

Q2. Two firms produce identical products. The market price for total production quantity q is
P(q)  100  2 q . Firm 1‟s total production cost is C1 (q1 )  q1  10, and firm 2‟s total production cost
is C2 (q2 )  2q2  5. Find the profict functions and the Nash equilibrium quantities of production and
profits.

Q3. Consider a two player game in which the payoffs, which depend on  , and actions are as in the
following table:
 =0  =1
L R L R
U 1,-1 -1,1 U 1,1 -1,-1
D -1,1 1,-1 D -1,1 1,-1
Where Pr(  0)  Pr(  1)  1 . Only Player 2 (the column player) knows whether  =0 or  =1.
2
Find the Bayesian Nash equilibrium in pure strategies.

Q4. Two companies, A and B, extract oil from a common oilfield. They can choose to use the common
field „less‟ or „more‟ and the resulting strategic interaction may be described as a simultaneous-move
game. The payoff matrix is the following:

B
less more
A less 70,70 50,85
more 85,50 60,60

“In an infinitely repeated game the cooperative strategy will be preferred against a grim trigger strategy”.
True or False? Explain your argument by writing the trigger strategy when the game is repeated infinitely,
the net present value of cooperation, the net present value of deviation, and the discount factor.

Q5. Consider a Cournot game of duopoly. Firm 1 and firm 2 producing a homogeneous product whose
demand function is given by P=100-2x where P and x stand respectively for the price and quantity
supplied in the market. Only these two firms produce the commodity so that x=x1+x2. Due to a
technological innovation, firm 2 has been able to reduce the unit cost of production. However, this is not
known to firm 1 for certain. The cost structure can therefore be stated as: The unit cost of production of
firm 1 is c. However, the unit cost of production in firm 2 may be either c or c-z, z>0. Firm 1 assigns a
probability p that firm2‟s unit cost is c-z. Firm 2 knows the unit cost of firm 1 for certain. Show that the
amount by which the output of Firm1 (in a Cournot setting) will decline depends on the probability
it places on the reduction of cost by firm 2.

1
Q6.
N  {Firm( F ), Worker (W }
TF  {t F }, Tw  {high, low}
AF  {hire, don' t hire}, Aw  {work , shirk}

Tw=high Tw=low
Work Shirk Work Shirk
Hire 2,3 0,2 Hire 2,2 -2,3
Don‟t hire 0,0 0,0 Don‟t hire 0,0 0,0

Consider the firm: At his only type tF, his belief about the other types are:

PF (high tF )  4 ;PF (low tF )  1

5 5
Consider the Bayesian Nash equilibrium of the game between the firm and the worker in which “the firm
hires and worker works if and only if he is high type”. Compute the following:

i) Firm‟s expected utility from the action “hire”

ii) Firm‟s expected utility from the action “don‟t hire”
iii) Worker‟s utility from work if he is of high type.
iv) Worker‟s utility from shirk if he is of high type.

Q7. In the context of the employment and efficiency wage model show that the worker has an incentive to
work if the worker receives more than his opportunity cost.

*******************