Bài giảng Microeconomics - Chapter 10 Thinking Strategically

Thinking Strategically0What is Chapter 10 about?1I. The Theory of GamesSlide 10 - 22Why do economists study “games” ?In a perfectly competitive market, each firm must take the market price as a givenOnly decision = how much to produceNo longer run feedback from that decision, hence no strategic choices exist at firm levelBut many (most) markets are not like thatWhen firm can influence market price, firm knows this will affect behavior of other firms – which will influence future marketsStrategic choices now have to be made3Theory of GamesThe payoff of many actions depends upon the actions of othersImperfectly competitive firm must weigh the responses of rivals when deciding whether to cut pricesImplication: decisions of competing firms are interdependent Game theory now dominates economic analysis of industrial organization4Elements of a GameBasic elementsThe playersThe strategiesThe payoffsPayoff matrixA table that describes the payoffs in a game for each possible combination of strategies5StrategiesDominant strategy:A strategy that yields a higher payoff no matter what the other players in a game chooseDominated strategy:Any other strategy available to a player who has a dominant strategyNash Equilibrium:Any combination of strategies in which each player’s strategy is his best choice, given the other players’ strategies6Table 10.1The Payoff Matrix for an Advertising Game7Am I better off if.?Note that each player is better off if they increase ad spending, under either possible choice of their opponentGreater ad spending is a dominant strategy8Table 10.2The Payoff Matrix for an Advertising Game When One Player Lacks a Dominant Strategy9II. The Prisoner’s DilemmaSlide 10 - 1010Prisoner’s DilemmaPrisoner’s Dilemma:Each player has a dominant strategyThe dilemma is: Payoffs are smaller than they would be if each player had played a dominated strategyThe Dilemma shows conflict between narrow self-interest of individuals and the broader interest of larger communities11Table 10.3The Payoff Matrix for the original Prisoner’s Dilemma12CartelsCartel:A coalition of firms that agree to restrict output for the purpose of earning an economic (excess) profitNormally cartels involve several firmsThis makes retaliation against a dissenter difficultAgreements are not legally enforceable and hence may be unstable13Figure 10.1The Market Demand for Mineral Water14Fig. 10.2The Temptation to Violate a Cartel Agreement1000110020000.901.002.00DPrice ($/bottle)MRBottles/day15Table 10.4The Payoff Matrix for a Cartel Agreement16III. Games in which Timing MattersSlide 10 - 1717Games with TimingPreviously we assumed that players moved at the same timeHowever, timing is often of the essenceDecision tree or game tree:A diagram thatDescribes the possible moves in a game in sequenceLists the payoffs that correspond to each possible combination of moves18Fig. 10.3Decision Tree for Example 10.4Kamal proposes $X for himself, $(100 – X) for TorbenABTorben acceptsTorben refuses$0 for Kamal$0 for Torben$X for Kamal$(100 – X) for Torben19Fig. 10.4Kamal’s Best (economic) Strategy in an Ultimatum Bargaining GameABKamal proposes $99 for himself, $1 for TorbenTorben acceptsTorben refuses$0 for Kamal$0 for Torben$99 for Kamal$1 for Torben20Fig. 10.5The Ultimatum Bargaining Game with an Acceptance ThresholdABTorben announces that he will reject any offer less than $Y$0 for Kamal$0 for Torben$X for Kamal$(100 – X) for TorbenKamal proposes$X > $(100 -Y) for himself,$(100 - X) < Y for TorbenKamal proposes$X ≤ $(100 -Y) for himself,$(100 - X) ≥ Y for Torben21Norms – “The cement of society”Economists have run experimentsTypically find that individuals reject “unfair” division in the ultimatum gameeven if the alternative is to get zero, rather than an “unfair” small amountEquity norms matter to behavior – as Adam Smith actually emphasized22CredibilityCredible threat:A threat to take an action that is in the threatening party’s interest to carry outCredible promise:A promise to take an action that is in the promising party’s interest to keep23Fig. 10.6Decision Tree for the Kidnapper GameABCVictim promisesto remain silentVictim dies, kidnapper keeps his freedomKidnapper setsvictim freeKidnapper kills victimVictim remains in danger, kidnapper keeps his freedomVictim goes to policeVictim is safe, kidnapper is sentenced to life in prisonVictim remains silent24Fig. 10.7Decision Tree for the Remote Office GameManagerial candidatepromises to managehonestlyOwner gets $0,manager gets $500 byworking elsewhereOwner does notOpen remote officeOwner opensremote officeManagers manages honestly;owner gets $1000,manager gets $1000Manager manages dishonestly;Owner gets -$500,Manager gets $1,500ABC25CommitmentCommitment problemsA situation in which people cannot achieve their goals because of an inability to make credible threats or promisesCommitment deviceA way of changing incentives so as to make otherwise empty threats or promises credible26Fig. 10.8 The Remote Office Game with an Honest ManagerManagerial candidatepromises to managehonestlyOwner gets $0,manager gets $500 byworking elsewhereOwner does notOpen remote officeOwner opensremote officeManagers manages honestly;owner gets $1000,manager gets $1000Manager manages dishonestly;owner gets -$500,manager gets $8,500ABC27Norms, Reputations and repeated gamesSocieties differ both in norms (e.g. for honesty) & in penalties for transgressing norm costs for reputation of transgression can be high I.e. reputation can be norm enforcement deviceReputation costs depend on repeated interaction – I.e. the frequency of future interactions“Trust” & “Trust-worthiness” is crucial to economic development28IV. The Strategic Role of PreferencesSlide 10 - 2929Role of PreferencesThe assumption that people are narrowly self-interested does not capture the full range of motivesRestaurants frequented mainly by out-of-towners enjoy the same tipping as those with mainly repeat customersPeople care about both being just and being treated justlySympathy for a trading partner can make a business person trustworthy30Preferences as Solutions to Commitment ProblemsConditions under which preferences can help solve commitment problemsIf one person does have the ‘right’ preferences (say, he/she is honest)AND if these preferences can be correctly discerned by the other personThen the two can interact without commitment problemsWhether it pays more to be dishonest and appear as honest depends on reputation costs 31End of Chapter SlidesConcept Maps meant for student printouts follow.Concept Map slides are also available in pdf format.Slide 10 - 3232What is Chapter 10 about?33I. The Theory of Games34II. The Prisoner’s Dilemma35III. Games in which Timing Matters36IV. The Strategic Role of Preferences37Summary of Chapter 1038