Game theory models strategic behavior by agents who understand that their

actions affect the actions of other agents.

is the study of mathematical models of conflict and cooperation between
intelligent rational decision makers.
It concerned with the general analysis of strategic interaction, It can be used to
study parlor games, political negotiation, and economic behavior.
A game consists of;
1. a set of players
2. a set of strategies for each player
3. the payoffs to each player for every possible list of strategy choices by the
players.
  The Payoff Matrix of a Game

Strategic interaction can involve many players and many strategies, but we'll
limit ourselves to two-person games with a finite number of strategies.

Suppose that two people are playing a simple game. Person A will write one of
two words on a piece of paper, "top" or "bottom." Simultaneously person B
will independently write "left" or "right" on a piece of paper.
  If A says top and B says left, then we examine the top left-hand corner of the
matrix. In this matrix the payoff to A is the first entry in the box, 1, and the
payoff to B is the second entry 2.
 if A says bottom and B says right, then A will get a payoff of 1 and B will get
a payoff of 0.
 Person A has two strategies: he can choose top or he can choose bottom.
These strategies could represent economic choices like "raise price" or
"lower price." Or they could represent political choices like "declare war“
or "don't declare war.“
1. What is the best chose for player A in this game?
From the viewpoint of person A, it is always better for him to say bottom since
his payoffs from that choice (2 or 1) are always greater than their corresponding
entries in top (1 or 0)
2. What is the best chose for player B in this game?
It is always better for B to say left since 2 and 1 dominate 1 and 0. Thus we
would expect that the equilibrium strategy is for A is to play bottom and B to play
left.
3. In this case, we have a dominant strategy. There is one optimal choice of
strategy for each player no matter what the other player does. Whichever
choice B makes, player A will get a higher payoff if he plays bottom, so it
makes sense for A to play bottom.
4. And whichever choice A makes, B will get a higher payoff if he plays left.
Hence, these choices dominate the alternatives, and we have an equilibrium
in dominant strategies.
5. If there is a dominant strategy for each player in some game, then we would
predict that it would be the equilibrium outcome of the game. For a
dominant strategy is a strategy that is best no matter what the other player
does. In this example, we would expect an equilibrium outcome in which A
plays bottom, receiving an equilibrium payoff of 2, and B plays left,
receiving an equilibrium payoff of 1.
 Player B
L R

U (3,9) (1,8) This is the

Player A game’s
D (0,0) (2,1) payoff matrix.

E.g. if A plays Up and B plays Right then

A’s payoff is 1 and B’s payoff is 8.
 Player B
L R

U (3,9) (1,8) This is the

Player A game’s
D (0,0) (2,1) payoff matrix.

And if A plays Down and B plays Right

then A’s payoff is 2 and B’s payoff is 1.
 Player B
L R

U (3,9) (1,8)
Player A
D (0,0) (2,1)

A play of the game is a pair such as (U,R)

where the 1st element is the strategy
chosen by Player A and the 2nd is the
strategy chosen by Player B.
 Player B
L R

U (3,9) (1,8)
Player A
D (0,0) (2,1)

What plays are we likely to see for this

game?
 Player B
L R
Is (U,R) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)
 Player B
L R
Is (U,R) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)

If B plays Right then A’s best reply is Down

since this improves A’s payoff from 1 to 2.
So (U,R) is not a likely play.
 Player B
L R
Is (D,R) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)
 Player B
L R
Is (D,R) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)

If B plays Right then A’s best reply is Down.

 Player B
L R
Is (D,R) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)

If B plays Right then A’s best reply is Down.

If A plays Down then B’s best reply is Right.
So (D,R) is a likely play.
 Player B
L R
Is (D,L) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)
 Player B
L R
Is (D,L) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)

If A plays Down then B’s best reply is Right,

so (D,L) is not a likely play.
 Player B
L R
Is (U,L) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)
 Player B
L R
Is (U,L) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)

If A plays Up then B’s best reply is Left.

 Player B
L R
Is (U,L) a
U (3,9) (1,8)
likely play?
Player A
D (0,0) (2,1)

If A plays Up then B’s best reply is Left.

If B plays Left then A’s best reply is Up.
So (U,L) is a likely play.
 A play of the game where each strategy is a
best reply to the other is a Nash equilibrium.
 Our example has two Nash equilibria; (U,L)
and (D,R).
 Player B
L R

U (3,9) (1,8)
Player A
D (0,0) (2,1)

(U,L) and (D,R) are both Nash equilibria for

the game.
 Player B
L R

U (3,9) (1,8)
Player A
D (0,0) (2,1)

(U,L) and (D,R) are both Nash equilibria for

the game. But which will we see? Notice
that (U,L) is preferred to (D,R) by both
players. Must we then see (U,L) only?
 To see if Pareto-preferred outcomes must be
what we see in the play of a game, consider a
famous second example of a two-player
game called the Prisoner’s Dilemma.
 Clyde
S C
S (-5,-5) (-30,-1)
Bonnie
C (-1,-30) (-10,-10)

What plays are we likely to see for this

game?
 Clyde
S C
S (-5,-5) (-30,-1)
Bonnie
C (-1,-30) (-10,-10)

If Bonnie plays Silence then Clyde’s best

reply is Confess.
 Clyde
S C
S (-5,-5) (-30,-1)
Bonnie
C (-1,-30) (-10,-10)

If Bonnie plays Silence then Clyde’s best

reply is Confess.
If Bonnie plays Confess then Clyde’s
best reply is Confess.
 Clyde
S C
S (-5,-5) (-30,-1)
Bonnie
C (-1,-30) (-10,-10)

So no matter what Bonnie plays, Clyde’s

best reply is always Confess.
Confess is a dominant strategy for Clyde.
 Clyde
S C
S (-5,-5) (-30,-1)
Bonnie
C (-1,-30) (-10,-10)

Similarly, no matter what Clyde plays,

Bonnie’s best reply is always Confess.
Confess is a dominant strategy for
Bonnie also.
 Clyde
S C
S (-5,-5) (-30,-1)
Bonnie
C (-1,-30) (-10,-10)

So the only Nash equilibrium for this

game is (C,C), even though (S,S) gives
both Bonnie and Clyde better payoffs.
The only Nash equilibrium is inefficient.