Chapter 10 games and strategic behavior
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Chapter 10: Games and Strategic Behavior. Game theory attempts to mathematically capture behavior in strategic situations , in which an individual's success in making choices depends on the choices of others. (Wikipedia)

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Chapter 10: Games and Strategic Behavior

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Chapter 10 games and strategic behavior

Chapter 10: Games and Strategic Behavior

  • Game theory attempts to mathematically capture behavior in strategic situations, in which an individual's success in making choices depends on the choices of others. (Wikipedia)

  • The actions taken by monopolistic competitors or oligopolies are interdependent, so are their payoffs.


Game theory

Game Theory

  • Basic elements of a game

    • The players

    • Their available strategies, actions, or decisions

    • The payoff to each player for each possible action

  • A dominant strategy is one that yields a higher payoff no matter what the other player does

    • Dominated strategy is any other strategy available to a player who has a dominant strategy


Example american and united scenario 1

Example: American and United – Scenario 1

  • Players: United and American Airlines supplying service between Chicago and St. Louis

    • No other carriers

  • Strategies: Increase advertising by $1,000 or not

  • Assumption

    • All payoffs are known to all parties


Payoff matrix

Payoff Matrix

  • Payoff is symmetric

  • Dominant strategy is raise advertising spending

    • Both companies are worse off

  • Payoff is symmetric

  • Dominant strategy is raise advertising spending

    • Both companies are worse off


Equilibrium in a game

Equilibrium in a Game

  • In an equilibrium, each player of the game has adopted a strategy that they are unlikely to change.

  • Nash equilibrium is any combination of strategies in which each player’s strategy is her or his best choice, given the other player’s strategies

    • Equilibrium occurs when each player follows his dominant strategy, if it exists

    • Equilibrium does not require a dominant strategy


American and united scenario 2

American and United – Scenario 2

Lower-Left cell is a Nash equilibrium

  • Same situation

    • Different payoffs; non-symmetric

  • America raises spending

    • United anticipates American action; does not raise


Prisoner s dilemma

Prisoner's Dilemma

Dominant strategy

Optimal strategy

  • The prisoner's dilemma has a dominant strategy

  • The resulting payoffs are smaller than if each had stayed silent


Cartels

Cartels

  • A cartel is a coalition of firms that agree to restrict output to increase economic profit

    • Restrict total output

      • Allocate quotas to each player


Cartel in action an example

Cartel in Action: An Example

  • Two suppliers of bottled water agree to split the market equally

    • Price is set at monopoly level

      • If one party charges less, he gets all of the market

    • Marginal cost is zero

    • Agreement is not legally enforceable


Bottled water cartel

Bottled Water Cartel

  • Each party has an incentive to lower the price a little to increase its economic profits

  • Successive reductions result in price equal to marginal cost


Bottled water cartel1

Bottled Water Cartel


Repeated prisoner s dilemma

Repeated Prisoner's Dilemma

  • Two players with repeated interactions

    • Each has a stake in the future outcomes

  • Both players benefit from collaboration

    • Tit-for-tat strategy limits defections

  • Tit-for-tat strategy says my move in this round is whatever your move was in the last round

    • If you defected, I defect

  • Tit-for-tat is rarely observed in the market

    • This strategy breaks down with more than two players or potential players


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