http://blog.ted.com/2013/03/28/further-readings-in-game-theory-how-it-applies-to
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Question
http://blog.ted.com/2013/03/28/further-readings-in-game-theory-how-it-applies-to-marriage-kidney-donation-chains-and-government-gridlock/
The above post (video and article) suggests a few interesting examples of game theory in our lives and the world around us. In fact, game theory is often seen not only in economics and business, but in politics, military, psychology, computer science, and biology among many others. Can you think of one, too? Please share a movie/TV video clip or an original example of your own and be sure to fully explain how game theory can be applied, if there is a dominant strategy, and if there is a Nash equilibrium.
Explanation / Answer
GAME THEORY
Game theory is the study of cooperative and noncooperative approaches to games and social situations in which participants must choose between individual benefits and collective benefits. The games or hypothetical situations involve scenarios where participants must make decisions that affect not only the individual participants but also all the other participants as well. Consequently, game theory is also called theory of social situations in some fields. Two of the central questions of game theory are: what games have a best strategy and how do participants identify the best or most rational strategy.
The field is called "game theory" because its focus is often limited to hypothetical situations or models and games where the interaction between participants can be analyzed easily and general reasons for participants' decisions can be determined. Game theory provides the most satisfying and conclusive information and analyzation in simpler games or scenarios—those with fewer decision makers and fewer choices. Because of the inherent complexities of more complicated games with more than two decision makers, game theory becomes more speculative when applied to such games. In these scenarios, decision makers confront forces they cannot control, which makes it difficult to monitor and describe rational behavior
How is Game Theory useful in business?
Game theory was once hailed as a revolutionary interdisciplinary phenomenon bringing together psychology, mathematics, philosophy and an extensive mix of other academic areas. Eight Noble Prizes have been awarded to those who have progressed the discipline; but beyond the academic level, is game theory actually applicable in today's world?
Yes!
The classical example of game theory in the business world arises when analyzing an economic environment characterized by an oligopoly. Competitive firms are faced with a decision matrix similar to that of a Prisoner's Dilemma. Each firm has the option to accept the basic pricing structure agreed upon by the other companies or to introduce a lower price schedule. Despite that it is in the common interest to cooperate with the competitors, following a logical thought process causes the firms to default. As a result everyone is worse off. Although this is a fairly basic scenario, decision analysis has influenced the general business environment and is a prime factor in the use of compliance contracts.
Game theory has branched out to encompass many other business disciplines. From optimal marketing campaign strategies, to waging war decisions, ideal auction tactics and voting styles, game theory provides a hypothetical framework with material implications. For example, pharmaceutical companies consistently face decisions regarding whether to market a product immediately and gain a competitive edge over rival firms, or prolong the testing period of the drug; if a bankrupt company is being liquidated and its assets auctioned off, what is the ideal approach for the auction; what is the best way to structure proxy voting schedules? Since these decisions involve numerous parties, game theory provides the base for rational decision making.
Another important concept, zero-sum games, also stemmed from the original ideas presented in game theory and the Nash Equilibrium. Essentially, any quantifiable gains by one party are equal to the losses of another party. Swaps, forwards, options and other financial instruments are often described as "zero-sum" instruments, taking their roots from a concept that now seems distant. (For an in depth explanation about game theory, check out Game Theory: Beyond the Basics.
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