Economic strategy and game theory assignment 4

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Question 1. Firms 1 and 2 offer an identical product on the market such that the demand is given by p =2 -Q (Q is total quantity) Firm I's marginal cost is a = 0 with probability 1 and observed by both firms. On the other hand, firm 2's marginal cost o, is only observed by firm 2 and unknown to firm 1. Firm 1 believes that with probability * (low-cost type) with probability + (high-cost type) The game is played over two periods. In the first period, firm 1 chooses quantity q1 e (0, co), which is publicly revealed at the end of the period. In the second period, after q is observed, firm 2 chooses its quantity 92. The final payoff functions are given as follows. m(, q) = (2 -q -92 - c) vi = 1,2 (a) Suppose that firm 1 chooses of in the first period. For any q, 2 0, find the best response of each type of firm 2 in the second period. (b) Find the subgame perfect equilibrium