EC 246: Decisions & Games

Problem Set V

Problem 1: The Drug Interaction Game in its full generality

There are four thousand residents in the town of Roston in Ruritania. Of them, one thousand
are Rich, one thousand are Upper-middle class, and two thousand are Middle class. Each
resident needs to consume one course of a particular antibiotic drug in a year. There can be
two versions of the drug – Brand-name and Generic. The residents’ “value” (in Roubles )
for a course of either version of the drug is as follows:
Brand-name drug Generic drug
Rich 61 21
Upper-middle class 36 26
Middle class 31 31
[The richer one is, the greater is the extent of brand-consciousness.]
Residents purchase drugs according to the following rules. If only the Brand-name drug is
available in the market at price p(BN): a resident with Brand-name value v(BN) buys the
drug if and only if [v(BN) – p(BN)] > 0. If, in addition, the Generic drug is available at price
p(GN): a resident with Brand-name value v(BN) and Generics value v(GN) buys the Brand-
name drug if and only if [v(BN) – p(BN)] > 0 and [v(BN) – p(BN)] ≥ [v(GN) – p(GN)]; she
buys the Generic drug if and only if [v(GN) – p(GN)] > max{0, [v(BN) – p(BN)]}.
Initially in Year (T–1), only the Brand-name drug is available in town. The drug is under
patent protection, and the unit cost of production is 15 per drug course. As a monopolist,
Brand-name Firm BN charges 30 per drug course (which is indeed its profit-maximizing
monopoly price).
Then the patent expires on 31 December Year (T–1), and a Generics Firm GN considers
entering the town; its unit cost of production is 10 per drug course. If it enters the Roston
market, GN will have to sink an up-front entry investment costing 400,000; if it does not
enter the market, its net present value profits will be zero. Both firms maximize “discounted
net present value profits”, and the annual discount rate is 10%.
Consider the following two-stage game between the two firms played on 1 January Year T:
Stage 1: At 6 am, GN decides whether or not to enter the Roston market. If it decides to
enter, it sinks 400,000 and this is observed by all.
Stage 2: At 10 am: (i) if GN did not enter, then BN sets its monopoly price “permanently”
in the market; OR (ii) if GN did enter, the two firms “simultaneously and
permanently” set their drug prices p(BN) and p(GN) respectively. At this pricing
stage, each firm can set any “integer price” between 5 and 100.

Determine the Subgame-perfect Nash Equilibrium of this two-stage sequential-move game.

[At the duopoly pricing stage, it might help you to consider convergence properties of the
following best-response iteration: If BN charges 30, the best response of GN is to charge P.
If GN charges P, the best response of BN is to charge Q. If BN charges Q, the best response
of GN is to charge R. If GN charges R, best response of BN is to charge S … and so on.]

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Problem 2: A variant of the Chinese Game of Nim

There are four marbles in a jar. Two players, Arup and Bina, alternate in taking turns to
remove marbles from the jar (starting with Arup). At each turn, a player has the choice to
remove either one marble or two marbles. The player who removes the last marble (whether
as the sole remaining marble or as one of two remaining marbles) is the winner of the game.
The winner earns a score = {100 + number of marbles held}, while the loser earns a score =
{number of marbles held}. The objective of each player is to maximize his/her score.
In this sequential-move game of complete information, determine the unique “subgame
perfect Nash equilibrium” strategy vector.

Problem 3: Exploring the benefits of “limiting one’s options” in a strategic situation

The Ruritanian government has recently realized that due to decades of protectionist policies
the quality of software available in the country is very poor. So they have decided to permit
two foreign companies, Vipro and Sinfosys, to market one software product each in
Ruritania. Each company is required to submit the name of a single product to the Ruritanian
government on the “license approval date” which is one month from today. At that time,
each company will be granted a license to market its submitted product in Ruritania.
While Vipro has two products – products A and B – ready for marketing in Ruritania,
currently Sinfosys has only one product – product C – ready for marketing. However,
Sinfosys can easily develop another product – product D – within the next month at virtually
no cost (by utilizing open-source codes). Whether it does this product development or not
will be observable to all.
The four products – A, B, C, and D – differ in their quality levels, and are imperfect
substitutes of each other. When Vipro and Sinfosys compete in the Ruritanian market with
their respective “single” products, their present value profits (in million Ruritanian Roubles)
will be as follows:
If Vipro sells A and Sinfosys sells C, Vipro profits will be 4 and Sinfosys profits will be 8; if
Vipro sells B and Sinfosys sells C, Vipro profits will be 2 and Sinfosys profits will be 2; if
Vipro sells A and Sinfosys sells D, Vipro profits will be 16 and Sinfosys profits will be 10;
and if Vipro sells B and Sinfosys sells D, Vipro profits will be 20 and Sinfosys profits will be 6.
Consider the following two-stage sequential-move game: In the first stage, Sinfosys decides
whether it will develop product D or not. After this decision is implemented (and observed by
all), then on the license approval date (Stage 2), each of the two companies simultaneously
submits the name of a single product for the marketing license.
In this sequential-move game of complete information, determine the unique “subgame
perfect Nash equilibrium” strategy vector.

Problem 4: Uncovering “forcing strategies” in a “win-lose-draw” sequential-move game

David Gale invented the following two-player competitive game “Chomp”: It is played on a
NM board of squares. Each square is denoted by the coordinates ij for 1  i  N and 1  j  M
(i is the horizontal coordinate and j is the vertical coordinate).
Each of the two players – A and B – takes (alternate) turns in “marking” squares, staring with
player A. When his/her turn comes, a player is required to “mark” a previously unmarked square.

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EC 246: Decisions & Games

When a player marks square (I, J) all squares to the “north and east of (I, J)” (i.e., all squares with
horizontal coordinates greater than or equal to I and vertical coordinates greater than or equal to J)
are removed from the board – they are “chomped up”. The player who (is forced to) mark the
square (1, 1) loses the game.
(i) Consider the following 23 Chomp board:

(1, 3) (2, 3)

(1, 2) (2, 2)

(1, 1) (2, 1)

Specify player A’s “forcing strategy” to win the game.

(ii) Consider any PP “square” Chomp board, where P is a finite positive integer greater than 1.
Specify player A’s “forcing strategy” to win the game.
(iii) Consider any NM “rectangular” Chomp board, where N  M are finite positive integers
greater than 1. It can be proved that even in this game player A has a “forcing strategy” to win.
Any idea about what such a strategy might be when N = 30 and M = 40?

Problem 5: A Sequential Claim Game

Two consumers – X and Y – have won lawsuits against Sleaze Company for selling them
defective products. The Judge decides that the monetary compensation to be paid to each
consumer will be determined by the following sequential process:
In Stage 1 : Consumer Y will publicly make one of two statements: “Statement A: Let the
Judge decide” or “Statement B: I’ll put in a written claim”. If Y makes Statement A, the
process will conclude with the Judge giving compensation of Rs.22,000 to each consumer.
If Y makes Statement B, this act will be observed, and the game will continue to Stage 2.
In Stage 2 : Consumer X will publicly make one of two statements: “Statement A: Let the
Judge decide” or “Statement B: I’ll put in a written claim”. If X makes Statement A, the
process will conclude with the Judge giving compensation of Rs.22,000 to each consumer.
If X makes Statement B, this act will be observed, and the game will continue to Stage 3.
In Stage 3 : the two consumers will simultaneously and privately present written claims to
the judge. The claim amount for each consumer is permitted to be either Rs 20,000 or
Rs 22,000 or Rs 24,000. Their compensations as functions of their claims are given by the
following “compensation matrix”:
Consumer Y
claim 20K claim 22K claim 24K
claim 20K 20000, 20000 19000, 19000 18000, 18000
Consumer X
claim 22K 19000, 19000 21000, 21000 19000, 19000
claim 24K 18000, 18000 19000, 19000 23000, 23000

Determine all the Subgame-perfect Nash equilibria of this game.