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Firms M and N compete for a market and must independently decide how much to advertise. Each can spend either $10 million or $20 million on advertising. If the firms spend equal amounts, they split the $120 million market equally. (For instance, if both choose to spend $20 million, each firm's net profit is 60 - 20 = $40 million.) If one firm spends $20 million and the other $10 million, the former claims two- thirds of the market and the latter one-third.
Firm M's Advertising
$10 million
$20 million
Firm N's Advertising
?, ?
40, 40
$10 million $20 million
a. Fill in the profit entries in the payoff table.
b. If the firms act independently, what advertising level should each choose? Explain. Is a prisoner's dilemma present?
c. Could the firms profit by entering into an industry-wide agreement concerning the extent of advertising? Explain.
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