Consider the following sequential game between firm 1 and firm 2. First, firm 1

Question

Consider the following sequential game between firm 1 and firm 2. First, firm 1 decides to adopt either technology A or technology B. Firm 2 observes firm 1's decision and then also decides between technology A or technology B. The profits (in thousands of dollars) of the firms are as follows. If both adopt technology A, then firm 1's payoff is $100 and firm 2;s is $50. If both adopt technology B then firm 1's payoff is $50 and firms 2's is $100. If firm 1 adopts technology A and firm 2 adopts technology B, then the payoff of each firm is $40. Finally if firm 1 adopts technolgy B and firm 2 adopts technology A the each firm makes $25 in profits. Using the priniciple 'look ahead and reason back' (i.e. backward induction) the most reasonable predition is: A both firms will adopt technology A; B that firm 1 will adopt technology A and firm 2 will adopt technology B; C that both firms will adopt technology B; D that firm 1 will adopt technology B and firm 2 will adopt technology A

Explanation / Answer

A both firms will adopt technology A

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