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Figure E3.3: Investment Decisions as a Coordination Game
Figure E3.3 is a payoff matrix that models investment decisions as a coordination game between two firms, A (the row player) and B (the column player). The figure illustrates the profits for each firm based on whether they choose to invest or not. The outcomes are as follows:
- Coordinated Investment (Top-Left): If both firms invest, they enter a virtuous circle where each earns a profit of 100.
- Coordinated Non-Investment (Bottom-Right): If neither firm invests, they remain in a vicious circle, with each earning a profit of 10.
- Unilateral Investment (Off-Diagonals): If one firm invests while the other does not (top-right and bottom-left cells), the investing firm incurs a loss of -40. The non-investing firm, however, benefits from the other's action and earns a high profit of 80. This payoff structure visually demonstrates the coordination problem: while mutual investment is the best collective outcome, the risk of being the sole investor creates a strong incentive to avoid investing unless the other firm's cooperation is assured.
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Figure E3.3: Investment Decisions as a Coordination Game
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