Aggressive Commitment

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En provenance du cours de Ludwig-Maximilians-Universität München (LMU)

Competitive Strategy

1674 notes

Ludwig-Maximilians-Universität München (LMU)

Competitive Strategy

1674 notes

Cours 1 sur 4 dans Specialization Competitive Strategy and Organization Design

In this six-module course, you will learn how businesses and organizations behave in situations in which strategic decisions are interdependent, i.e. where my actions affect my competitors' profits and vice versa. Using the basic tools of game theory, we will analyse how businesses choose strategies to attain competitive advantage. This course is also available in Chinese. Please go to our course catalog to access the Chinese version of Competitive Strategy.

À partir de la leçon

Why Firms Work Together

According to economic theory, companies compete with each other in the marketplace. In reality, they are often friendly and cooperate with each other. In this module, we attempt to understand this strategy, and why it is good for the organizations involved. With this, we evaluate the factors that encourage or hinder cooperation and apply them in different examples.

Aggressive Commitment10:14

Cooperative Commitment4:24

Rencontrer les enseignants

Tobias Kretschmer
Professor
Institute for Strategy, Technology and Organization

So, welcome back. In today's lecture, we're analyzing under

which circumstances firms can successfully coordinate their behavior.

And as we've just seen, if games are played repeatedly, this may help firms to

cooperate. Another way by which behavior can be

coordinated one way or another is commitment.

So, therefore, in this video we'll look at aggressive commitment and in the next

video we'll move on to cooperative commitment.

But for now, let's get started. So, what is the intuition of aggressive

commitment? The intuition is that in, most

situations, the players of a game have lots of options, and they like to have

lots of options. So there's a strong element that, as a

strategic player in a game, as a participant in the market, you'll want

to have as many options open as possible. Aggressive commitment goes in exactly the

other direction. Aggressive commitment tries to eliminate

those moves which would lead to unattractive equilibria, okay?

So you're limiting your option doing an aggressive commitment rather than

expanding your options. This very often means in game theoretic

terms, that you're trying to change a game from a simultaneous game to a

sequential one. As we'll see using an example of the

Global Airframe market. So as you know the Global Aircraft Market

was for a long time basically dominated by the largest plane in the world which

was the Boeing 747. Now, there's basically two firms in the

world that could build a plane that's as big or even bigger and that's Airbus and

that's Boeing. And so a while ago there was some

thinking that maybe there is room in the market for a larger plane than the 747.

And so therefore, both Boeing and Airbus wanted to start thinking about a new

large scale passenger airplane. So Airbus termed this the A380, Boeing

called it the 747X as in extra large. There was however, even though the

general agreement was that yes, there was a market for larger plane.

There was also an agreement that said, well you know there's probably not enough

market. The market is not large enough for these

super large plane's to have two different models.

So would be either the A380 or the 747X, that would be profitable in the market or

if both entered then both would start making losses.

So how do we take all that information and put it into a matrix?

Well, we've got again, as always, we've got the two players, Airbus and Boeing.

And they can choose whether to stay out of this large-scale market or, to enter

that large-scale market. Now, if both stay where they are, then

Airbus is assumed to make two billion in profits, $2 billion and Boeing is assumed

to make $3 billion in profits. If Airbus continues to stay out, but

Boeing launches the 747X, then they take some market share of the largest plane by

Airbus. And they open up the entire

market for super-large airplanes, so they would make 4 billion and Airbus' profits

would drop to 1 billion. If it's the other way around, so that the

A380 comes into the market, and Boeing stays out, then Airbus' profits would go

up to 4 billion and Boeing would lose 1 billion, because

they'd lose market share for the 747. And the issue of course is that if both

planes get launched, then both firms would start making losses, here to the

tune of 2 billion. Now looking at this issue looking at the

situation, what are the Nash Equilibria in this game?

Well, let's assume that, Boeing doesn't launch the 747.

What does Airbus do? They choose between not launching and

launching. Not launching in this case would give

them $2 billion. Launching in that case would give them $4

billion. So they're going to choose to launch the

A380. If Boeing, launches the 747X then Airbus

faces the choice between staying out and making $1 billion.

Losing some market share or going in but losing $2 billion, because the market

does not sustain two planes of this size.

So therefore, they're better off getting the $1 billion that comes

from not launching the new product. So, so much for Airbus.

What about Boeing? If Airbus chooses to stay out of the

market, then Boeing can choose if they stay out, they make $3 billion, if they

go in, they make $4 billion. So, they would choose to go in.

If Airbus, has launched the A380 or has committed to launch the A380 then Boeing

can choose to stay out getting $2 billion

and going in and creating losses for the entire market.

So therefore their best option is again to not enter with the super large plane.

So here, just looking at that, you see that we've got two Nash Equilibria, one

where the A380 is launched and not the 747X.

And one where the 747X is launched and not the A380.

So, looking at this, it's pretty clear that Airbus has a clear preference over

these two Nash Equilibria, right? So Airbus wants to launch the A380, but

wants to make sure that Boeing does not get to launch the 747X.

Now, as we've seen in previous sessions, we've seen that if

we have multiple Nash Equilibria, it's not easy always

to select which one of those is going to be the one that we play.

So, let's see what Airbus did, or what Airbus was trying to do in trying to

change the game and influence the game such that their

preferred equilibrium is chosen. So, they choose an aggressive commitment,

they choose to move first. And they chose to move first such that,

even before the plane was completely developed and so on,

they started building production facilities in their two hubs, Hamburg and

Toulouse. And, what's more is they made sure that

these production facilities can only be used for the production of the A380 okay?

There's no way back. They couldn't produce a smaller plane

with these production facilities. And this changed the game decisively,

because this meant that Airbus was now committed to building the A380.

So again let's go back to the theory and see how that works.

Well, Airbus has a choice and they have the choice first.

They have the choice of launching the A380 or not launching it.

Boeing can react to that and they can choose to launch or not launch the 747X

depending on whether the Airbus has launched the A380 or not.

So looking at the payoffs, we know those from the previous game matrix, if both

planes are launched, losses are going to be $2 billion for each.

If only the A380 is launched then Airbus is going to make their highest profit

which is $4 billion and Boeing is going to make 2.

If only the 747X is launched then Boeing is going to make their highest profit by

making four billion and Airbus is going to make $1 billion.

And if none of the planes is launched then they make profits of $2 billion for

Airbus and $3 billion for Boeing. So let's try and solve this game.

And let's try and find the Nash Equilibria.

So if Airbus has entered the market, Boeing could choose to launch their 747x

as well or to stay out. Given that, you make minus 2 billion here

and you make positive 2 billion here this is going to be their preferred option.

So, if Airbus launches then Boeing is going to stay out.

On the other hand if Airbus stays out then Boeing can choose to enter and make

4 and stay out and make 3. So of course their best strategy here is

to enter. So now we can compare the situation from

Airbus's point of view. So if Airbus enters with the A380,

they're going to make 4 billion. If they're not going to enter then Boeing

is going to enter and Airbus is going to make 1 billion.

So the outcome of this game, the sub game perfect Nash Equilibrium is going to be

that Airbus chooses the A380 and Boeing stays out of the market.

In this short video, we've looked at aggressive commitments.

And we've looked at a commitment that basically changed the game from a

simultaneous game to a game where Airbus had the first move.

And we could also see that this changed the dynamics of the game.

It changed the outcome of the game significantly

because it meant that Airbus was able to select which of the two Nash Equilibria

that we saw in the simultaneous game they were going to select.

So, they influenced the outcome of the game by moving first.

So for now to make sure that, you graphed the concept of aggressive commitment

let's do the in video quiz. And then we'll move on to the next video

which is going to be on cooperative commitment.

So see you in a few minutes.

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