Semester 2 Assessment, 2022

Faculty / Dept:

Faculty of Business and Economics / Department of Economics
Subject Number:

ECON20005
Subject Name:

Competition and Strategy
Writing time:

2 hours
Reading time:

15 minutes
Exam paper upload allowance: 30 minutes

Paper to be held by the Baillieu Library:

No
INSTRUCTIONS TO STUDENTS:


- This is an open-book exam.

- This exam contributes 60% to your final mark for this subject.

- This exam has 5 questions. Answer ALL of the questions.

- This exam requires file uploads. These files may take some time to complete their upload
in peak exam times. Students are permitted up to 30 minutes after the scheduled
completion time to upload and check files. File uploads must be fully completed by this
time. To clarify, the start time for this exam is 11am. You should have your file uploaded
by 1:45pm (which includes the 15 minutes of reading time, 120 minutes of writing time and
30 minutes of upload allowance). Please use a timer to monitor the allotted time. Students
will not be able to make a submission after this time. Students who were prevented from
submitting on time or at all due to technical difficulties will need to apply for
technical/special consideration with supporting documentation.

- If you have questions during the exam, you can contact me by using the Exam Support
link on the LMS site. The chat room is private for each student.

- If you are experiencing technical difficulties, you can call the following numbers for
assistance during the exam. Inside Australia: 13MELB (13 6352) (select Option 1 for
current students then select Option 1 again for exam enquiries). Outside Australia: +61 3
9035 5511 (select Option 1 for current students and then select Option 1 again for exam
enquiries).

- Your answers must be submitted as a single PDF file using the LMS assignment tool.

- Your answers may be either fully word-processed, fully handwritten or a mixture of the
two. If you wish to submit any handwritten content, then it must be scanned and included
in the PDF file you submit.

- Your name, your student number, the subject code and the subject name must appear on
the first page of your submission. Your student number must appear on every page of the
PDF file you submit. Question numbers must be clearly indicated in your answers.

- You must retain a copy of your answers after submission.

UNIVERSITY OF MELBOURNE
ECON20005: Competition and Strategy
Final Exam 2022
1. (25 marks) The term ‘Michelin Star’ is a hallmark of fine dining quality, with restaurants
worldwide promoting their Michelin Star status. Suppose that this year’s competition is
between two restaurants, the Lentils Bar and the Corner Bistro. Michelin relies entirely
on its full-time sta↵ of anonymous restaurant reviewers who can cast one vote for any
of the two candidate restaurants. Three of the six reviewers prefer the Lentils Bar, and
the remaining three prefer the Corner Bistro. Each reviewer decides whether to vote
or to abstain. The restaurant which receives the most of number of votes wins. If both
restaurants receive the same number of votes, the competition ends with a tie.
A reviewer who abstains receives a payo↵ of 200 if the restaurant she prefers wins, 100
if there is a tie, and 0 if her preferred restaurant loses. A reviewer who votes receives
a payo↵ of 150, 75, and 75 in each of the three respective cases.
(a) (10 marks) Show that voting against one’s preferred restaurant is strictly domi-
nated by abstaining (i.e., a reviewer would prefer to abstain rather than to vote
against her preferred restaurant).
(b) (10 marks) Is there a NE in which there is a tie between the restaurants and not
all of the reviewers vote? Briefly explain.
(c) (5 marks) Is there a NE in which all the reviewers vote? Briefly explain.
2. (20 marks) An owner wants to hire someone to manage a franchise for her chain of
co↵ee shops in Melbourne. The owner can send an inspector to monitor the store’s
operation, but monitoring costs c > 0, which, for example, may stand for the cost of
the wages paid to the inspector. The store manager can work hard or browse his phone.
The store manager prefers to browse his phone if the owner does not monitor him and
prefers to work hard if the owner monitors him. The normal form representation of the
game is:
Owner/Manager Work hard Browse phone
Monitor 3 c, 1 2 c, 0
Not Monitor 3, 0 1, 3
1
(a) (12 marks) Assume that c < 1. Find all the NE of this game.
(b) (8 marks) Briefly explain how the equilibria you found in part (a) change as c
decreases.
3. (a) (15 marks) Compute all pure strategy Nash Equilibria of the following game.
L R
A
L R
B
L R
1
2
l r
1
2
C
P1 Nature
P2 P2
(3, 1) (0, 0) (0, 0) (1, 3) (1, 1) (0, 0) (2, 2) (0, 0)
(b) (10 marks) Consider the following game and write it in extensive form.
First, Sofia chooses between actions a and b. She knows that after she makes her
decision, Jack observes which action Sofia has chosen with probability 1/3 and
does not observe which action Sofia has chosen with probability 2/3. In all cases
(regardless of whether Jack has observed that Sofia chose a, or he has observed that
Sofia chose b, or he has not observed any action), Jack chooses between actions ↵
and . The payo↵ of each player is 1 after (a,↵) and (b,) and 0 otherwise.
4. (25 marks) Consider a Linear City Model with three firms, A, B and C. Firm A is
at location 0, firm B is at location 1/2 and firm C is at location 1. Firms’ marginal
costs are c = 1 and consumers’ cost of traveling a distance of 1 is t = 3. There are 100
consumers uniformly located over the Linear City. The firms’ prices are denoted by pA,
pB and pC . Assume that every consumer is buying.
(a) (10 marks) Derive the demand functions of the three firms.
(b) (10 marks) Suppose firms A, B and C compete by setting prices simultaneously.
Find the NE prices and profits of this game. Do all firms charge the same price
and earn the same profit? Briefly explain.
2
(c) (5 marks) Now assume prices are fixed at p = 20 for all firms. Firms A, B and C
compete by making location choices simultaneously. Is having firm A at location 0,
firm B at location 1/2, and firm C at location 1 a pure-strategy Nash Equilibrium?
Briefly explain.
5. (25 marks) The owner of Falcons would like to make sure that the team wins the
championship this year. If the Falcons win the title, the owner will earn $20 million,
and if they lose, the owner will make a loss of $5 million. The probability of winning
depends on the e↵ort of the head coach, Tom Hawkins. The likelihood of winning is
40% if Tom Hawkins puts in no e↵ort and 70% if Tom Hawkins puts in e↵ort. Providing
e↵ort is costly. Tom Hawkins gets a disutility of $5 million from putting in e↵ort and
gets no disutility if he provides no e↵ort. Assume that Tom Hawkins’ outside option
gives a payo↵ of $2 million.
(a) (8 marks) Suppose that the owner can observe the e↵ort level exerted by Tom
Hawkins. How much will the owner need to pay Tom Hawkins so that he exerts
e↵ort? Will the owner like to o↵er a contract where Tom Hawkins provides e↵ort?
(b) (10 marks) Now suppose that the owner cannot observe how much e↵ort Tom
Hawkins exerts. Assume that the owner o↵ers a wage scheme consisting of a
base salary, w, as well as a bonus, b, which only gets paid if the Falcons win the
championship. Both the base salary and the bonus cannot be negative: w 0 and
b 0. Find a contract that gives incentives for e↵ort provision.
(c) (7 marks) Will the owner o↵er this contract, or will he be better o↵ with a contract
where no e↵ort provision is incentivized?