Question

At a time when demand for ready-to-eat cereal was stagnant, a spokesperson for the cereal maker Kellogg's was quoted as saying, "... for the past several years, our individual company growth has come out of the other fellow's hide." Kellogg's has been producing cereal since 1906 and continues to implement strategies that make it a leader in the cereal industry. Suppose that when Kellogg's and its largest rival advertise, each company earns \(0 in profits. When neither company advertises, each company earns profits of \)12 billion. If one company advertises and the other does not, the company that advertises earns \(52 billion, and the company that does not advertise loses \)4 billion. Under what conditions could these firms use trigger strategies to support the collusive level of advertising?

Short answer

Trigger Strategies$\Rightarrow i\le \text{30percent}$

Step-by-step solution

Collusive oligopoly

A conspiracy Oligopoly is a market condition in which oligopolists prefer to collaborate rather than compete with one another. They try not to compete in the market, productivity, or another criterion.

Explanation

Given,

In the present period, the cheating company's profit is $52

The profit of each colluding business is $12

The clearing company's profit in the next term is $0

The rate of interest at which these companies may utilise trigger methods to promote collusive advertising can be calculated using the formula:

$\begin{array}{c}\frac{{\text{Π}}_{\text{Cheat}}-{\text{Π}}_{\text{co-op}}}{{\text{Π}}_{\text{co-op}}-{\text{Π}}_{\text{Nash}}}\le \frac{1}{i}\\ \frac{52-12}{12=0}\le \frac{1}{i}\\ \Rightarrow i\le \frac{12}{40}\\ \Rightarrow i\le 0.3\end{array}$

$\Rightarrow i\le \text{30percent}$

Hence, the interest rate should be equal to or exceed 40%.