GAME

THEORY
BY:
 MUHAMMAD YASEEN
 MAAZ KHAN DURRANI
Introduction
1. Intro: Game theory is a branch of mathematics
and economics that studies strategic decision
making in situations where the outcome of one
depends on the action of others.
2. Purpose: It provides a framework for analyzing
how individuals or organizations make decisions
to maximize their outcomes in competitive
situations.
3. Components: Game theory involves players,
strategies, action, payoffs, and equilibrium concepts.
Definition
• A set of tools used by
economist and other to
analyze strategic decision
making.
• More than one decision
maker which effect the
decision of others.
 1. Oligopoly Pricing

Examples 2. Auctions
3. Location of the firms
Applications in economics
1.Oligopoly (Prices, Quantity, and Advertising Levels)
2. Bargaining between union and management
3. Collusion and Cartels.
5. Bargaining between car, home owners or sellers, and buyers
6. Auction Design.
7. Intersection between polluter and those harmed by pollution.
Different terminologies use
in game theory
Game: Game is the interaction between players, set rules, players use
strategies to achieve their purpose.
Strategy: Is a battle plan that specifies the actions of players that are
conditional on the available information at each move.
Payoffs: Benefits received by player for individual payoffs are utility
and for firm payoffs are high profit.
Action: a move that player makes at a specified stage of game, such as
how much output will products in the current year.
Rules of the Game: Timing of players moves, various action that a
possible (set of available option), limitation.
Types of games
Static Game:
• a game in which players acts only once and
simultaneously.
• Incomplete information.
• Each player act without knowing the action of its rival.
• Example: two rival firms, deciding about location of
their firm.
2. Dynamic game:

• Players have multiple

moves/actions.
• Players move either repeatedly or
sequentially.
• Players adjust their strategies
based on what others do.
• The game is played over time,
with each player trying to achieve
their goals.
 Types of Dynamic game
1. Repeated Game: 2. Sequential Game:

A static game is repeated over many times/periods. One player moves before the other player.
Stackelberg Duopoly:
Firms action in one period can affect the action of its
rival in the next period. Two firms, A and B, compete in a market. Firm A moves first,
setting its output (QA). Firm B observes QA and then sets its
output (QB).
Payoffs:- If QA = 10 and QB = 10, both get 10
If QA = 10 and QB = 20, A gets 5, B gets 15
If QA = 20 and QB = 10, A gets 15, B gets 5
If QA = 20 and QB = 20, both get 5
This is a sequential game because Firm A moves first, and Firm B
responds after observing Firm A's action.
Prisoner's
Dilemma
• A game in which all players
have dominant strategy that
result in profit (or other
payoffs) that are inferior to
what they could achieve of
they use
cooperative strategies.
 Example for prisoner’s dilemma:

Graph 1:
• The dominant strategy for both is (1,1).
• They don’t choose the do not advertise because they not
know about its rival strategy.
• This game is called prisoners dilemma.

Graph 2:
• The dominant strategy + Nash equilibrium for both is
(5,5).
• This is not a prisoners dilemma game, because no one
other good option are available.
• therefore it is possible to achieve maximum joint profit
even without cooperation.
• Joint profit is (5+5=10).
Dominant
strategy
• A dominant strategy is a player's best
option regardless of what the other
players choose. It's like having a
winning move in a game, no matter
what your opponent does.
• it is a strategy that is better of all no
matter what strategy is chosen by
opponent.
• It is best in case of all that can be
chosen by opponent.
Example
• we have two airlines, united airline and American airline from loss
Angeles to Chicago.
• These two airlines to decide about quantity, number of passengers that
are allowed to travel.
• Lower quantity 48000 and higher quantity 64000.
• It is static game, simultaneous action, incomplete information
• This game is non cooperative game.
Payoffs Matrix
• If United chooses the high-output strategy (qU = 64),
American’s high-output strategy maximizes its profit:
Given United’s strategy, American’s profit is 4.1 ($4.1
million) with its high-output strategy (qA = 64) and
only 3.8 with its low-output strategy (qA = 48). Thus,
American is better off using a high-output strategy if
United chooses its high-output strategy.
• If United chooses the low-output strategy (qU = 48),
American’s high-output strategy maximizes its profit:
Given United’s strategy, American’s profit is 5.1 with
its high-output strategy and only 4.6 with its low-
output strategy
• Thus, the high-output strategy is American’s dominant
strategy: Whichever strategy United uses, American’s
profit is higher if it uses its high-output strategy.
Best response and
Nash equilibrium:
• Best response: the strategy that maximizes a
player's payoff given its beliefs (fixed in table)
about its, rivals strategies.
• Nash equilibrium: John Nash (1994 a noble price
winner). A set of strategies is a Nash equilibrium
if when all other players use these strategies, no
player can obtain a higher pay off by choosing a
different strategy.
• In many game the dominant strategy are not
available.
• The firms/player choose best response and based
on this best response choose the strategy called
Nash equilibrium.
Example: two firms
American airline and
united airline

• we can find a Nash equilibrium by using a

two-step procedure. First, we determine
each firm's best response to any given
strategy of the other firm. Second, we
determine if any pairs of strategies (a cell in
the profit table) are best responses for both
firms, so that the strategies in this cell are a
Nash equilibrium.
Payoffs Matrix
• suppose:
• if united choose 96 then best response of American will
be 2.3.
• if united choose 64 then best response of American will
be 4.1
• if united choose 48 then best response of American will
be 5.1.
• now for American:
• if American 96 then best response of united will be 2.3.
• if American 64 then best response of united will be 4.1
• if American 48 then best response of united will be 5.1
• In this case the Nash equilibrium is (4.1, 4.1).
Nash
equilibria
• multiple Nash Equilibria refer to
situations in a game where there
are more than one combination of
strategies.
• There are possibility of multiple
nash equilibrium then we will
called it nash equilibria.
Payoffs matrix
THE END
Thanks