Question 1) A key characteristic that sets oligopoly apart from other market structures is the fact that firms in an oligopolistic market are inter-dependent. Required: a. In your own words, clearly explain what it means by "firms being inter-dependent". b. In November 2020, the Reserve Bank of Australia (RBA) cut the cash rate to a record low of 0.1%. The RBA also announced that commercial banks would be allowed to borrow from the RBA for three years at an interest rate of 0.1% via the so-called "Term Funding Facility". Both these moves curbed the costs of borrowing for commercial banks substantially. For simplicity purposes, assume that there are only two commercial banks operating in Victoria: Commonwealth Bank (CBA) and Westpac. Westpac is contemplating whether to pass the cuts in its borrowing costs to its home loan customers (i.e., reduce the interest rate charged on home loans). Suppose you are the chief economic adviser at Westpac. Would you suggest Westpac to cut its home loan interest rates? What are the factors you must put under consideration? c. Unlike the other three market structures, we do not analyse firms in an oligopoly market, using graphs (i.e., firm diagrams). We have to employ a different analysis technique called game theory. In your own words, clearly explain why it is not possible to draw graphs to illustrate a firm operating in an oligopoly market. Hint: It is tied with the fact that firms in an oligopoly market are inter-dependent.Question 2) This question expands on Question 1 above. For simplicity purposes, assume that there are only two commercial banks operating in Commonwealth Bank (CBA) and Westpac. Both banks are assessing whether they should cut interest rates charged on their home loans. Suppose that all hypothetical scenarios are presented as follows: . If neither CBA nor Westpac reduce their lending rates, business will be as usual, and each bank earns $500 million of profit per year . If both CBA and Westpac reduce the rates, both have to accept lower profits. Each will earn $400 million. . If CBA reduces but Westpac keeps rates the same, customers will leave Westpac and flock to CBA. CBA earns $600 million and Westpac $350 million . If CBA keeps the rates the same but Westpac reduces, customers will leave CBA and flock to Westpac. CBA earns $200 million and Westpac $550 million a. Based on the information above, construct the payoff matrix for CBA and Westpac b. Define dominant strategy. Does Commonwealth Bank (CBA) have a dominant strategy in this game? Explain. c. What is (are) the Nash equilibrium(s) in this game? Explain. d. If CBA and Westpac both keep their interest rates unchanged, they will earn $500 million in profit each, which is higher than their profits at the Nash equilibrium. Why can't CBA and Westpac just keep their interest rates unchanged? Why can't it be the Nash equilibrium? Clearly explain
