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Game Theory Applications: Lecture 2

Game Theory Applications: Lecture 2. Galina Albert Schwartz Department of Finance University of Michigan Business School. How to find me:. My office: D3270A (Davidson Hall) My e-mail: galka@umich.edu My office hours: Mon., 10am - 12pm & Th., 1pm - 3pm, or by appointment.

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Game Theory Applications: Lecture 2

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  1. Game Theory Applications: Lecture 2 • Galina Albert Schwartz • Department of Finance • University of Michigan • Business School Lecture Notes in Game Theory

  2. How to find me: My office: D3270A (Davidson Hall) My e-mail: galka@umich.edu My office hours: Mon., 10am - 12pm & Th., 1pm - 3pm, or by appointment Lecture Notes in Game Theory

  3. Lecture 2 : Terminology & Examples of Basic Games • Dixit, Chapters 1 & 2 (mostly 2) • Definitions • strategy • outcome • equilibrium • payoff • expectations • rationality Lecture Notes in Game Theory

  4. The Major Definition • Dixit, p. 29 second paragraph from the bottom • Our definition of the rules of the game • list of players • strategies available to each of them • payoffs of each player for all possible combinations of all player strategies • each player is a rational maximizer Lecture Notes in Game Theory

  5. Definitions: • Strategy is a set of the choices available for the players, (Dixit, p. 25) • Payoff is a number associated with each possible outcome of the game (Dixit, p. 26) (and Expected payoff) • Equilibrium - each players strategy is a best response to the strategies of others, p. 30 Lecture Notes in Game Theory

  6. What Do We Assume about the Game? • Rationality implies: • consistency in the ranking of the payoffs • ability to calculate what is in his best interest • Common knowledge of the rules of the game Lecture Notes in Game Theory

  7. What is Rationality? • Rationality does not imply: • the same values for everyone • impossibility of altruism[could be incorporated in payoff] • short-term rationality [irrational from immediate perspective may be valuable as a long-term strategy] • example: prices: introductory prices & predatory prices. Interaction between the two Lecture Notes in Game Theory

  8. Classification of the Games • Dixit, Chapters 1 & 2 (mostly 2) • constant-sum games  zero-sum games • bargaining games • brinkmanship • sequential moves games • simultaneous moves games • cooperative games (we will not address) [i.e. games with a possibility of enforceable joint-action agreements] Lecture Notes in Game Theory

  9. Classification of the Games (cont.) • Dixit, Chapters 1 & 2 (mostly 2) • non-cooperative games • non-repeated games (one-shot games) • repeated games • repeated but with different opponents • dynamic games (evolutionary games) [or, are the rules fixed or permit manipulation?] Lecture Notes in Game Theory

  10. What is more important: How or Why? • How (cases) • Why (theory) • Apply game theory to • explain • predict • advise (prescribe) • Why is needed to advice (prescribe) Lecture Notes in Game Theory

  11. Lewis, Chapter 2: Never Mention Money. Game 1 • Never Mention Money: Does it makes any sense? • Yes, it does. [The required answer actually makes perfect sense.] Emotions matter! I.e.: • the people [excitement by the high-caliber people] • the challenge • the thrill of the deal Lecture Notes in Game Theory

  12. Lewis, Chapter 2: Never Mention Money. Game 2 • Why analysts’ job has super-long hours? • from a production point: inefficient • Prisoners dilemma? [A small part of the explanation] [But a cutthroat business competition is a Prisoner’s dilemma] • Major purpose - to deter cheats [time constraint on physical implementation , and design of the cheating mechanism] Lecture Notes in Game Theory

  13. Lewis, Chapter 2: Never Mention Money. Game 3 • Interviewing with Solomon Brothers. • Why intellect is not checked sometimes? • It is implied to be sufficient • Why education (the knowledge) is irrelevant, but still is required? • signals interests • signals ability • majoring in economics: permit direct comparison Lecture Notes in Game Theory

  14. Lewis, Chapter 2: Never Mention Money. Game 3 (cont) • Why to intimidate? • Speed (and quality) or responses in unfamiliar situation are tested • Why no explicit offer? • Nobody could turn it down • Importantly: impossible to state that you turned Solomon down • No explicit salary offer. To underpay? • No, to screen. A quest for the able ones (who do not fear the risk & confident in abilities) Lecture Notes in Game Theory

  15. Summary of Today • Definition of the Game p. 29 • The definition of Nash Equilibrium, p. 30 • Lewis, Chapter 2: examples of the games Lecture Notes in Game Theory

  16. To Do: your preparation to 01.18.01 • Read: Dixit, chapter 2 • Read: Lewis, chapters 2 & 3 • Next time: we will explain what is the absolutely necessary component of the Greenspan’s strategy [and any other Central Banker’s strategy] Please, prepare your guesses of the ’absolutely necessary component’ Lecture Notes in Game Theory

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