Cheating for $20: Why collusion and price fixing is difficult to do

Interesting that 87.5% of the players didn't cheat, and the one that did bid 0.3% of the supposed equilibrium price, but this is somehow supporting the theory put forward.

It reminds me of the RAND corporation experiment, an economist and a mathematician play the game and reach Nash Equilibrium in a handful of moves. Same game played by secretaries and they all co-operate all the time completely defying all of the theories they build up like a house of cards. So in an economy where everyone studies math for decades and has no social skills we have a great tool to predict the economy, but for most of the real world isn't much help.

Sure it can work in certain financial markets with no contact between participants outside the market mechanism and most of the players can be assumed reasonably expert, so it has its uses, but a lot of care needs to be used when trying to take it outside that sort of area because the assumptions break down very badly in most situations.

I am reminded of my favorite description of behavioral economics: "A field of academic inquiry into what college students will do when faced with making economic choices outside their personal experience."

This is just a variation of a very interesting game Douglas Hofstadter describes in Metamagical Themas (extremely highly recommended by the way) in the section on psychological number games. In his game 10 people are allowed to choose "yes" or "no" without knowing what other people chose. If everyone picks "yes" everyone gets $100. If anyone picks "no" then anyone picking "no" gets $10 and everyone else get $0.

He describes inviting 10 of his friends he considers very smart, tells his friends they will be playing with other smart people, then expresses dismay when all his friends pick "no".

My sorry description here doesn't do the story justice. Very worth the time to track down a copy of the book.

I think real life markets are much different than this experiment because:

1) Repeated trials in the game lets past loosers punish past winners (i.e. Ashley will get more than boos in subsequent trials).

2) Players get to observe the world better in real world than what secret bids in this game allows.

I am still unconvinced that collusion and price fixing is difficult as the title suggests.

Wish that was true but in real life collusion is much easier to maintain. For example, a collusion deal usually entails higher prices which means that to benefit of cheating one has to lower prices and make money on volume.

But sometimes it is not as easy to make money on volume. Often you need time and capital investments to increase volume. But if the other colluding companies see you making the capital investments to get higher volume they will know you are planning to cheat and they will drop their agreement as well. At that point you get no sales advantage of cheating and yet you have spent a lot of money making to create the goods for an expected sales increase. Oh, and everyone else in industry hates your guts.

So sometimes in the real world it is much easier for an executive to collude and pocket his/her bonus than to compete.

I don't see how the example applies to all cases of price fixing. If two gas stations next to each other decided to fix their price, and one all of a sudden decided to lower their price, then that would only give a temporary gain. If they stick to fixing the price however, they both will gain until a journalist muckrakes them.

Real world oil companies collusion http://www.cyprus-mail.com/news/main.php?id=48041 (was on holiday here and just read this in the paper version of the paper)

I played an identical game a few years ago. Someone went ahead and bid $100 for the $20. Models work fine as long as "rational" behavior is a worthwhile assumption.