Principles of Economics- Mankiw (5th) 351

Principles of Economics- Mankiw (5th) 351 - CHAPTER 16 O L...


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CHAPTER 16 OLIGOPOLY 361 result is the inferior outcome (from Iran and Iraq’s standpoint) with low profits for each country. This example illustrates why oligopolies have trouble maintaining monopoly profits. The monopoly outcome is jointly rational for the oligopoly, but each oli- gopolist has an incentive to cheat. Just as self-interest drives the prisoners in the prisoners’ dilemma to confess, self-interest makes it difficult for the oligopoly to maintain the cooperative outcome with low production, high prices, and monop- oly profits. OTHER EXAMPLES OF THE PRISONERS’ DILEMMA We have seen how the prisoners’ dilemma can be used to understand the problem facing oligopolies. The same logic applies to many other situations as well. Here we consider three examples in which self-interest prevents cooperation and leads to an inferior outcome for the parties involved. Arms Races An arms race is much like the prisoners’ dilemma. To see this, consider the decisions of two countries—the United States and the Soviet Union—
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