CHAPTER 4 (EXTENDED):

GAME THEORY

Mai Thuy Dung, MSc

mtdung@hcmiu.edu.vn
Room A2.603
International University
Vietnam National University HCMC
 CONTENTS

1. Introduction to game theory

a. What is a game?
b. Game classification
2. Simultaneous game
a. Bimatrix description
b. Which option to choose
c. Dominated move
d. Best response
e. Nash equilibria
1. INTRODUCTION TO
GAME THEORY
 WHAT’S A GAME?
• Game in game theory refers mathematical game, which has been
applied to economics, politics, business, and other various areas.
• Ingredients:
- Rules
- Outcomes and payoffs: Mathematical game has many possible
outcomes, each producing payoffs for players;
- Uncertainty of the outcome: Since a game contains some
random elements, or has more than one player, the outcome of
the game cannot be predicted;
- No cheating
• Rational behavior is usually assumed for all players in a game.
That is, players have preferences and beliefs about the world,
and try to optimize their individual payoffs.
 GAME CLASSIFICATION (1 OF 2)

Games can be categorized according to several criteria:

• How many players are there in the game? Usually there should
be more than one player.
• Is play simultaneous or sequential?
- Simultaneous game: Each player has only one move (action), and
all moves are made simultaneously.
- Sequential game: Each player moves at a time, and players may
have to move several times.
• Do players have perfect information? Every player knows other
players’ moves when about to move
• Is the game zero-sum? A player can have a positive payoff only if
another has a negative payoff.
 GAME CLASSIFICATION (2 OF 2)

Games can be categorized according to several criteria:

• Is the game cooperative or non-cooperative? Even if players
negotiate, the question is whether the results of the negotiation
can be enforced
- Cooperative game: The results of the negotiations can be put in a
contract and be enforced.
- Non-cooperative game: A player can move differently from what
was promised in the negotiation. Then the communication is called
“cheap talk.”
• Within the scope of this chapter extension, we’ll focus on several
main types of simultaneous games
2. SIMULTANEOUS
GAMES
 NORMAL FORM - BIMATRIX
DESCRIPTION
••  Assumption:

- Each player only has finite options.

- Players simultaneously make their moves, determine the outcome of
the game, and receive their payoffs
How many outcomes are possible?
players
Player has possible moves, for
There are possible outcomes.
• Symmetric game: All players have the same options, and if the
two players interchange their moves, the payoffs also
interchange.
 WHICH OPTION TO CHOOSE

• Some people always expect the worst, yet want to maximize their
payoffs. So, for any of their options, they would concentrate on
their smallest possible payoff, and choose the option with highest
value. This value is called the maximin value or security level
- This move is called a maximin move (strategy), since it maximizes
the minimum possible payoff.
- To choose the maximin move, the player doesn’t have to know the
payoffs of other players
 EXAMPLE 1 – TWO PLAYERS (1 O F 3 )

Two companies share a market, in which they currently make

$5,000,000 each. Both need to determine whether they should
advertise. For each company, advertising costs $2,000,000, and
capture $3,000,000 from the competitor provided the competitor
doesn’t advertise. What should the companies do?
 E X A M P L E 2 – T W O P L AY E R S Z E R O - S U M

Assume we are play Rock – Scissors – Paper for one dollar.

Develop the payoff matrix

In zero-sum game, the worst case of either A or B is to lose the

game. In other words, there is no way to implement the maximin
move in this game.
 E X A M P L E 3 – TH R E E O F M O R E P L AY E R S
(1 OF 2)

Three companies consider purchasing masks for their employees

from a manufacturer during pandemic. If there are only one
company deciding to purchase, the price is $10,000 per shipment.
However, if the manufacturer see any increase in demand, they
would raise their price by $2,000 per shipment for one more client.
Develop a bimatrix if all three companies decide at the same time.
 E X A M P L E 3 – TH R E E O F M O R E P L AY E R S
(2 OF 2)

Does the result change if we consider the risk cost of not protect employees from the
padamic? Assuming that it would cost each company $100,000 if they let their
employees expose to the disease. Wearing mask would reduce the exposure rate by
35%.
 DOMINATED MOVES (1 OF 2)

••  A move,, for A strictly dominates another move , if always

results in a higher payoff for A than
- A rational player would never play a move that is strictly dominated
by another one (i.e. weak move).
- A player’s maximin move is never strictly dominated by any of her
other moves  The advice given by the maximin mechanism and
dominated move mechanism are typically the same.
• If all players are assumed to be rational, and experienced enough,
they reduce the game by eliminating all strictly dominated
moves.
- The process of repeatedly reducing the game, as well as its result, a
game that can’t be reduced any further is denoted by IESD – iterated
elimination of strictly dominated moves.
 DOMINATED MOVES (2 OF 2)

• A’s move weakly dominates another move, if it yields at least

the same payoff for A in all cases generated by combinations of
moves of the other players, and in at least one case an even better
payoff
- Iterated elimination of weakly dominated move (IEWD) is not
something that should be performed automatically.
 EXAMPLE 4 – TWO BARS (1 OF 2)

Each of two bars charges its own price of a beer, either $2, $4, or
$5. The cost of obtaining and serving the beer can be neglected. It
is expected that 6,000 beers per month are drunk in a bar by
tourists, who choose one of two bars randomly, and 4,000 beers per
month by natives who go to the bar with lowest price, and split
evenly in case both bars offer the same price. What prices would
the bars select?
 BEST RESPONSE
• A’s best response to B’s move M is the move that yields the
highest payoff for A, given B’s move M
- There may be several best responses to a given move
- To find A’s best response to B’s move M, we don’t even have to know
B’s payoffs.
• You’ll find the best responses for A’s move by looking at the
rows of the bimatrix one by one and selecting in each row the cell
where the second entry is maximum. The label of the
corresponding column is the best response to the move
corresponding to that row.
- The same rule applies to find B’s best response with the columns.

What is best response to advertising/ NOT advertising in Example 1?

How about Example 4?
 E XA M P L E 1 R E V I S I T – B E S T R E S P O N S E

B advertises B doesn’t
A advertises 3, 3 6, 2
A doesn’t 2, 6 5, 5

• The best response for A’s move when A advertises is that B

advertises.
- The best response for A’s move when A doesn’t advertise is that B
advertises.
• Likewise, the best response for B’s move when B advertises is
that A advertises
- The best response for B’s move when B doesn’t advertise is that A
advertises.
 EXAMPLE 4 RE VISIT – BEST RE SPONSE

$2 $4 $5
$2 10, 10 14, 12 14, 15
$4 12, 14 20, 20 28, 15
$5 15, 14 15, 28 25, 25

• The best response for the price of “$2” is a price of “$5”

• The best response for the price of “$4” is a price of “$4”
• The best response for the price of “$5” is a price of “$4”
 EXAMPLE 5 – BEST RESPONSE

 Findthe best response in an example of a simultaneous three-person

game where each player has two options: A has the move and ; B
has and ; C has and . Assume the payoffs are:

-1, 1.1, 0.1, 1.1, 1.1, 0.1,

0, 2.1, 0
0.1 1 -0.9
1, 0, -1 0, 1, 1.1 -0.9, 1, 0 0.1, 2, 0.1
 NASH EQUILIBRIA
• An outcome is called a pure Nash equilibrium provided nobody
can gain a higher payoff by deviating from the move, when all
the other players stick to their choices.
- In a pure Nash equilibrium, each move involved is the best response
to the other moves.
- A higher payoff is possible if only two of more players change their
moves.
• Nash equilibria are self-enforcing agreements.
• In the symmetric Two-bar example, (4, 4) is the unique pure
Nash equilibrium.
 E X A M P L E 6 – P R I S O N E R S ’ D I L E M MA ( 1
OF 2)

Adam and Bob have robbed the bank and been arrested. They are
interrogated separately. Adam & Bob have an option to confess
(move C) or to remain silent (move S). The police has little
evidence, but if both remain silent, they’ll be sentenced to one year
on a minor charge. Therefore, the police proposes a deal: if one
confess while the other remains silent, the one confessing goes free,
while the other is sentenced for three years. However, if both talk,
both will be sentenced to two years. Find the Nash equilibria.
 E XA M P L E 7 – B AT T L E OF S E X E S ( 1 O F 2 )

A couple, Adam and Beth, decides independently whether to go to a

soccer game, or to the movie in the evening. Each person likes to do
something together with the other, but the man prefers soccer, and
the woman prefers movie. Assume that no previous communication
is possible.
 E XA M P L E 7 – B AT T L E OF S E X E S ( 2 O F 2 )

• Using best response, there’re 2 Nash equilibria in this version:

(soccer, soccer) and (movie, movie)
• Games with more than one pure Nash equilibrium are sometimes
called coordination games, since if pre-game negotiations are
allowed, the players have to agree on one of them.
• The question is: which Nash equilibrium is the best?
- By concentrating on Pareto-optimal Nash equilibria.
- A Nash equilibrium is Pareto-optimal if it is not strictly
dominated by any other Nash equilibrium.
 REFERENCE

1. Prisner, E. Game theory through examples. Mathematical

Assocation of America, 2014.