Question

For the following situation, describe what you think is the most likely outcome based on game theory
concepts:
Suppose Jerry is in the market for a used car. Jerry meets Freddie who offers a 15-year-oldsedan
whose price in Kelley Blue Book is $2500. If the car is in good mechanical condition, then it is worth
$3000 to Jerry and $2000 to Freddie. If the car is a "lemon" (in bad mechanicalcondition), then it is
worth $1000 to Jerry and $0 to Freddie. While Freddie knows the truecondition of the car, Jerry only
knows that 80% of the cars sold by Freddie are in goodcondition. Then Jerry and Freddie decide
simultaneously whether to trade the car or not atthe market price ($2500). If both elect to trade, then
the trade takes place. If not, Freddie keeps the car. If there is a trade, Jerry obtains as payoff the
(subjective) value of the car (that depends on the car's condition) minus the price and Freddie receives
as payoff the marketprice. If no trade takes place, Freddie receives as payoff the (subjective) value of
the car And Jerry receives zero.

A. Is Freddie willing to trade a car in good condition at the market price? How about a lemon? (Explain
your answer)

B. Given the previous answer, should Jerry opt to trade?
C. How would the situation change if 75% of cards sold by Freddie are in good condition and this risk

downy by Jerry? Would it make a difference if 50% of cars sold by Freddie are lemons?

D. Going back to the original situation, what is the most likely outcome if the car's market price is
$1500 (instead of $2500)?​

Answer 1

Answer:

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