Market Games

Yesterday I attended another economics experiment held at my uni. It’s the second year I have now been participating and I have really started to enjoy them. The overwhelming majority of the sessions that I have been in were related to carbon/water permit trading schemes and how different agents act in a market. All of these sessions I participated as a seller of these permits. However, the session yesterday was different, whilst similar in terms of market behaviour, I found it more interesting.

There were two types of people in the group, buyers and sellers. There were 12 people in the whole experiment and there was a ratio of 2 sellers to 1 buyer. We were told that at the start of the experiment we would be told whether we were a buyer or seller and that we would be in that same role for 30 rounds.

Sellers have a marginal cost of $30. Given that a seller will be competing against another seller, if a seller fails to sell no units, they will get 0 profit. Therefore a sellers profit would be:

Profit = MC – P (given a sale occurs)

Buyers want to buy a good that they value (V) at $100. The catch is that the buyer will only be given one price given from the two that are assigned to the buyer. If the buyer wants to see the other price offered it will cost the buyer $15, which will be denoted as a search cost. Buyers also had the option of exiting the market and having no profit at all.

Profit = V – P – SC
or
Profit = 0 -SC (if exits)

The combination of buyers and sellers would change every round and the prices given to the buyer would be randomly selected.

I was given the role of buyer.

Now I don’t know if my strategy is the correct one, but it seemed to work. The first conclusion I arrived to when given this information was that the fair value for the good would be somewhere around $65 (resulting in $35 profit for both buyer and seller), I assumed for a few rounds that sellers might try and price competitively by pricing below this point. Worse case scenario was that either the seller will collude to price high (giving the buyers to either buy at low margins or exit) or we, the buyers fail to “punish” those that price above the fair value.  Another scenario I feared was that if all sellers colluded and the buyers wer intent on not accepting unfair prices, we all get zero profit.

The prisoner’s dilemna came to mind when I was developing strategies for this game.

Eventually I stuck to the strategy of accepting anything at the price of $65, rejecting anything above by searching for the other bid and accepting if it was at fair price or below.  If both prices were above fair price I left the market.  Hoping that  the other 3 buyers would adhere to a similar strategy and the sellers all acted independently.  At the end of the session, everything went pretty much to plan.  Probably due to the fact that there were only 4 buyers in the room, which meant greater price control as opposed to 15, which could yield some different results.

Like I said, I think my strategy worked.  But I don’t know if it was because of my strategy or because the strategy of the others, nonetheless the experiment was fun and I look forward to the next.