The homework goes beyond the Milgrom and Roberts textbook because I think it is important to have a mature view of when to expect rational people to produce efficiency and when that won't happen. Also note that efficiency here is contained to the parties of the bargain only. If outsiders get screwed as a result, looking at that you might say the situation is not really efficient, but such an example doesn't count as a violation of M&R's principle. If the parties in the bargain themselves can't reach an agreement, that would be an example that violated M&R's principle.
Also note that the homework only works through the case of two-player games. It doesn't consider the multi-player case. That is for simplicity in the modeling, not for realism.
As with all the Excel homework, if you have questions about this one, please write them as a comment to this post.
I am confused on the last question. I was thinking that the expected payoff for the row player should always be higher than the equilibrium payoff since 9 is larger than 7. This would also make sense since the Row player cheated and chose the outcome that would benefit him.
ReplyDeleteYou need to understand the full dynamic of what is going on. What you have described is the one shot gain from cheating. Indeed, 9 is bigger than 7. What happens in future play of the game matters, however. It matters a lot. In all periods after the cheating, the players will play (Bottom, Right) and each get 2. That is an equilibrium in the subgame where cheating has occurred because (Bottom, Right) is an equilibrium of the one-shot game. So in the punishment phase they are both doing worse than they would have been if no cheating occurred.
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