When an Inefficient Competitor Makes Higher Profit than its Efficient Rival
Ryerson University, Faculty of Arts - Department of Economics
University of Crete
January 6, 2014
We present examples of cost-asymmetric duopoly games where the inefficient firm can obtain higher payoff than its efficient rival. Firms compete in a Cournot fashion and their quantities are chosen by their managers. We assume that managers are offered two types of incentive contracts, the pure profit or the pure revenue contract. We allow for mixed and correlated strategies in the contract stage and derive the implications of the resulting choices. Surprisingly, we show that in equilibrium the less efficient firm can obtain higher market share and also higher profit than its more efficient rival. This result holds under both pure and mixed Nash equilibria and also under a robust set of correlated equilibria.
Number of Pages in PDF File: 12
Keywords: managerial contract, cost asymmetry, mixed strategy
JEL Classification: D43, L13, L21
Date posted: January 7, 2014
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