Hong Kong Polytechnic University

First Semester 2016/17

AF1605 Introduction to Economics

|Problem Set: |4 |
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|Student Name: |Lau Ka Wai |
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|Student ID: |16065989D |
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|Programme enrolled: |International shipping and transporatation |
| |logistics |
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|Subject Lecturer: |Dr Vincent Mok |
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|Subject Tutor: |Dr Vincent Mok |
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|Tutorial Group: |TUT004 |
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|Tutorial Day and Time:|Wednesday 5:30 p.m. |
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|Number of words: | |

AF1605 Introduction to Economics

First Semester 2016/17

Results of Presentation and Written Report

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|Mark of Question 2: | |
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|Total mark of report: | |
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Question 5.5

This question concerns the concept of Game Theory. "Game Theory is the
formal study of conflict and cooperation (Turocy, 2003)." When there are
several agents and their actions are interdependent, the game theory can be
applied. The "game" represents an interactive scenario which involves
different players. In the game, players have to make choices. As players
are assumed to be rational, they would choose the option that can maximize
their own interest. However, these choices would affect the interests of
other players. So they have to determine their best choice given the choice
of other players. As a result, we can find out the Nash equilibrium, or the
strategic equilibrium. According to Turocy (2013), a Nash equilibrium is a
list of strategies that no player can unilaterally change his or her
strategy and get a better outcome.

Q 5.5(a)

This question required us to complete a payoff matrix according to the
given situation. Before we complete the payoff matrix, we have to first
list out all the costs and benefits that involve in each action.

Doing housework: each of them will incur a cost of \$30 (-\$30).

Playing computer game: each of them will enjoy a benefit of \$80 (+\$80).

Both play computer game: they will receive pocket money of \$60 (+\$60).

Both do housework: they will receive pocket money of \$120 (+\$120).

One plays computer game and one does housework:
The son who does housework will receive pocket money of \$150 (+\$150).

The son who plays computer game will receive pocket money of \$30 (+\$30.)

Now we can find out the payoff matrix for Bobby and Albert from the above
information.

Both do homework:
Albert: \$120-\$30= \$90
Bob: \$120-\$30= \$90

Bothe play computer game:
Albert: \$60+\$80= \$140
Bob: \$60+\$80= \$140

Bobby does housework and Albert plays computer game:
Albert: \$30+\$80= \$110
Bob: \$150-\$30= \$120

Albert does housework and Albert plays computer game:
Albert: \$150-\$30= \$120
Bob: \$30+\$80= \$110

Below is the payoff matrix:
| |Do housework |Play computer game |
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|Do housework |Albert: \$120-\$30= \$90 |Albert: \$150-\$30= \$120 |
| |Bob: \$120-\$30= \$90 |Bob: \$30+\$80= \$110 |
|Play computer game |Albert: \$30+\$80= \$110 |Albert: \$60+\$80= \$140 |
| |Bob: \$150-\$30= \$120 |Bob: \$60+\$80= \$140 |

Q 5.5(b)

This question required us to find out the best strategy for Albert and
Bobby if they collude with each other.

The best strategy for them is that they both choose the option with the
highest value or best outcome, which is both play computer game. As they
can have an \$80 benefit of playing computer game plus the pocket money of
\$60 given by their father. The value of both playing computer game is \$140,
which is the highest among all choices. Thus, if they collude with each
other, they will play computer game together.

Q 5.5(c)

Their collusion is likely to be successful. The best strategy for them if
they collude with each other is that both of them select to play computer
game, in which the value they receive is \$140. If Bob betray, the value he
receive will be \$120, which is less than the value of choosing collusion.
If Albert betray, the value he receive will also be \$120, which is less
than the value of choosing collusion. As we can see, there is no temptation
for them to betray each other. To conclude, their collusion is likely to be
successful.

Q 6

This question concerns the concept of externalities and efficiency.
Efficiency is achieved when the social surplus is maximized. There are two
types of externalities: negative externalities (A production or consumption
activity that creates an external cost) and positive externalities (A
production or consumption activity that creates an external benefit).

In this question, the highway with traffic congestion during the peak hour
will generate negative consumption externalities, in which the social
benefit is deviate from the private benefit. A government official