1.

In second priced sealed bid auction where there are two bidders and common knowledge, the
Nash equilibria happens when the bidder bids their true value. This is because the winner of the
auction will pay the second highest bid, which is the bid off the other player.
So if there are two bidders that have valuations v 1 and v 2, the Nash equilibria are:
- A scenario where v 1> v 2, the nash quilibrium would be: ( b 1 , b 2) =v 1 , v 2. In this case, bidder 1,
bidst their true value v1 and wins by paying v2. Bidder 2 bids their true value v2 and loses,
which is the best outcome since bidding a higher price will give a negative payoff. Therefore no
player has incentive to deviate.

Another nash equilibrium would be where v 2> v 1. In this scenario bidder 2 bids their true value
v2 and wins. Bidder 1 loses. Bidder 1 will not bid higher since he will get a negative payoff.
Therefore no player have incentive to deviate.

2.

a)
Reason why v i weakly dominates any lower bid:
Lets say that a player bids less than their valuation v i. Then they will risk not to win the item, when
they could afforded to pay more, which is up to v i.
But if they win with a bid lower than v i, then they would pay the third highest bid, which is less
than or equal to their bid. So in this case they could have bid v i and still won without the price they
paid being affected. So bidding v i weakly dominates bidding lower because it will make sure they
win when they should, without changing the price they will pay.

Reason why v i does not weakly dominates any higher bid:

Lets say that a player bids higher than v i, they will not receive anything if they win since they pay
the third highest bid. But if the third highest bid is between v i and the bid b i, then bidding b i and
not v i has no benefit. In this case they will win the auction, but they will pay their valuation v i.
So bidding v i does not weakly dominate bidding higher because there's no additional benefit to
winning by paying more than v i .

b)

If we say a person values the item at 300hkd, and the two other bids are 150hkd and 50hkd. Then
the person should place a bid that is slightly above the second-highest bid. For example, 160hkd.
Then they would win the auction, but they only have to pay the third-highest bid, which is 50hkd.
Therefore, the actual valuation of 300hkd does not make a Nash Equilibrium, because they can
increase their utility by bidding less than their true value, but more than the second-highest bid.

c)
If make an assumption about that there is a trie breake, where the player who has the highest
valuation will win, then we have the following:
 v 1> v 2 >v 3

In this case, every player knows their own valuation, but not the other players.
If we imagine that every player places a bid that are equal to the lowest valuation: b=v 3 , then this
will be a nash equalibrium because:
- Player 1 can benefit from bidding higher, because they will still pay v 3 , and they do not want to
bid lower, because then they will risk losing the auction, so this player has no incentive to
deviate.
- Player 2, who is the player who has the second highest valuation, will not gain either by
bidding more than v 3, because if they win, they will still pay v 3, and they will not gain anything
from bidding their own valuation. If they choose to bid less than v 3, then they will risk losing
the auction.
- They third player, who has the lowest value, will also not gain anything from bidding more or
bidding less. Therefore, bidding exactly v 3 is the best option for him.

Therefore, will these players not have incentive to deviate under the assumption of tie break. The
highest valuer wins by the tie-break rule, and the others bid in such a way that they cannot
improve their outcome by changing only their own bid.

3.
The Nash equilibrium will be to bid higher tha the highest possible value of any other player.
If we have v max as the highest possible valuation of any other player than i. Then if player I want to
win, he must place bid b i that is higher than v max. But in this case, even though player I wins, he
might end up with a negative payoff, because he pays more than their own valuation.

So the Nash equilibrium, where player I, wins no matter her value, the equilibrium bid for each
player i should be:
max
b i=v + x , where x is a small number, so b iis slightly bigger than the highest possible bid of the
other players.

4.
We know that the bidding function of bidder 1 is: β 1 ( v )= 1− ( 1n ) v , which suggest that bidder 1 will
1
bid a fraction (1− ) of their valuation.
n
Then we −iβ ( v ) =kv . This is the bidding function for all the others bidders.

Utility maximization:
max U 1 =P ( b1 >max { b−i } ) ·(V 1 −b1 ), this is the expected utility for bidder 1.

Probability:
b1
>max { V −i })
P(
k
This means that the probability that the valuation corresponding to bidder 1’s bid is higher than
maximum valuation of the other bidders.
Now we will raise the probability to the power of n-1, to represent the fact that the probability of
bidder 1’s bid being higher than all n-1 other bidders.

( )
n −1
b1
·(V 1−b 1)
k
To find the optimal bid, we will need to take FOC and solve it against 0:
V 1 n−2 n n−1
( n−1 ) · n−1 · b1 − n ·b 1 =0
k k
If we solve this, we get:

( ) 1
b 1= 1− · V 1
n

5. Following question can be solved with the help of backward induction.

If we use this , you will see that player 1, will accept any offer but this gives player 2 the incentive
to keep everything y=1. Player 1 will propose the offer that aligns with their acceptance.
So if player 2 will accept Player 1's offer if the offer x is less than or equal to -c2. Player 2 prefers to
accept an offer that gives them a payoff that is at least as high as their disagreement payoff of −c2.

So therefore SPE will be that player 1 keeps x=c 2and offers 1-x=1-c 2 during the first period. This will
then be accepted by player 2.
Player 2 accepts this offer because it gives them a payoff equal to their disagreement payoff, and
they cannot do better by rejecting the offer.

6.
Player 1 offers 1-x, so player 2 will accept. Here player 2’s payoff would be 1-c 1+c 2. Based on player
2’s response, player one will propose: 1−x=1−c 1 +c 2. Furthermore, player 2 can accept between
1-x, and c 1−c 2 during first period.

When you get to the second period, player 2 will offer y=1−c 1.
And to make sure that the game does not go to period 3, player 2 will offer y, which player 1
acceptt. In this scenario, Player 1 will make a offer (1, 0), and Player 2 will accept any offer as
dictated by the subgame perfect equilibrium (SPE).

7.
In every period, player 1 will offer a split (1,0).
Given the fact that c 1 <c 2, player 1 is more willing to bring the bargaining process to a close more
quickly due to their higher impatience level. In the event that Player 1 suggests the alternative split
(0, 1), it would be in Player 2's favor to reject this proposal. Instead, Player 2 should opt for a future
period, where her lower impatience level might allow her to secure a more favorable outcome.
However, when Player 2 rejects the initial offer, Player 1 gains the opportunity to return in the
following period with the offer (1,0). But in this came player 1 will get the whole surplus since
c 1 <c 2. Therefore, based on this player 1, will start with a (1,0) offer proposal at the beginning so he
wont get rejected.

Player 2 knows and will therefore not reject and accept a (1,0) offer. Therefore a SPE is where
Player 1 proposes (1, 0) and Player 2 accepts it

8.
We need to find a bargaining that satisfies all 3.
In the scenario where the set U is triangular, the outcomes that are Pareto optimal are found along
the periphery of U, because no point inside U can be Pareto optimal.
For SYM, it refers to the Symmetry axiom, which requires that the solution to a bargaining problem
must treat all players equally if they are in identical situations. We know that the d-point is on
(0,0), and that the utility is symmetric compared to the line. The line y=x intersects the triangle U
along the line segment from (0, 0) to (1, 1). Therefore, the solution is also on this line.
According to IIA, the solution must be find by the options within the triangle U, and d.
Based on this the solution will be (1,1). As mentionsed the solution must lie on the boundary of U.
An in this case the highest point where the line y=x intersects the boundary of U is at (1,1).