Consider two craft bourbons distilled in Brooklyn, New York: Kings County and Stillhouse. If the distilleries advertise, they can both sell more bourbon and increase their revenue. However, the cost of advertising more than offsets the increased revenue
so that each distillery ends up with a lower profit than if they do not advertise. On the other hand, if only one advertises, that distillery increases its market share and also its profit.
a. Construct a payoff matrix using the following hypothetical information: If neither distillery advertises, each earns a profit of $500,000 per month. If both advertise, each earns a profit of $250,000 per month. If one advertises and the other does not, the distillery that advertises earns a profit of $750,000 and the distillery that does not advertise earns a profit of $125,000.
b. If Kings County wants to maximize profit, will it advertise? Briefly explain.
c. If Stillhouse wants to maximize profit, will it advertise? Briefly explain.
d. Is there a dominant strategy for each distiller? Briefly explain.
a. The payoff matrix:
b. If Kings County wants to maximize profit, it will advertise. If Stillhouse advertises, then Kings County will make $125,000 if it does not advertise, and $250,000 if it does. Therefore, it will choose to advertise. If Stillhouse does not advertise, then Kings County will make $750,000 if it advertises and $500,000 if it does not. Therefore, it will choose to advertise.
c. If Stillhouse wants to maximize profit, it will advertise. Same reasoning as used in (b).
d. Yes, the dominant strategy is to advertise. Same reasoning as in part b.
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