What is Game Theory?

Game theory is a mathematical approach to modeling and analyzing decision-making and strategy in situations where two or more parties have conflicting objectives. It was first developed in the 1940s and has since become a widely-used tool in economics, psychology, political science, and a variety of other fields.

The basic idea of game theory is that a "game" is a situation where individuals or groups make decisions that interact with each other, and the outcome of the game depends on the decisions made by all parties involved. Game theory seeks to understand the optimal decisions that individuals should make in order to achieve their goals.

One of the key concepts in game theory is the idea of Nash equilibrium, which is a situation where each player in the game is making the best decision they can, given the decisions of the other players. This means that no player would benefit from changing their strategy, as doing so would make their situation worse.

Another important concept in game theory is the idea of dominant strategies, which are strategies that are always the best choice, regardless of the other players' strategies. For example, in the classic prisoner's dilemma game, confessing to a crime is the dominant strategy for each player, even though both players would be better off if they both remained silent.

Game theory can be applied to a wide range of real-world situations, from financial markets to international relations. For example, in the realm of international politics, game theory can be used to analyze the strategies and decisions of countries in areas such as arms control and trade negotiations.

In conclusion, game theory provides a powerful framework for analyzing decision-making and strategy in complex, multi-party situations. By using mathematical models and concepts such as Nash equilibrium and dominant strategies, game theory can help individuals and organizations make better decisions and achieve their goals more effectively.

Simplified Example

Game Theory is like playing a game of strategy with your friends, where you try to figure out the best moves to make to win. Just like in a game, in Game Theory you try to understand how different people might act and react to different decisions, in order to make the best choice for yourself. It's like playing a game of chess, where you have to think ahead and anticipate your opponent's moves in order to win.

Who Invented Game Theory?

Coined by John von Neumann and Oskar Morgenstern in their seminal 1944 work "Theory of Games and Economic Behavior," the term "game theory" found its roots in a comprehensive exploration of strategic decision-making. However, the application of game theory principles extends far beyond its formalization in the mid-20th century, permeating diverse fields such as economics, political science, and psychology well before its codification.

Examples

The Prisoner's Dilemma: The Prisoner's Dilemma is a classic example of a game theory scenario in which two individuals have to decide whether to cooperate or defect in order to gain the maximum reward. In this scenario, two criminals are arrested and kept in separate cells, unable to communicate with each other. The prosecutor offers both criminals a deal: If one confesses and the other remains silent, the one who confesses will receive a lesser sentence while the other will receive a harsher sentence. If both confess, they will both receive intermediate sentences. If neither confesses, they will both receive a lesser sentence for a different crime. The optimal outcome for both players is to remain silent, but this is difficult to achieve because each player is motivated to confess in order to reduce their own sentence.

The Stag Hunt: The Stag Hunt is a game theory scenario in which two individuals have to choose between two different courses of action. In this scenario, two hunters are out in the woods looking for prey. One hunter can choose to hunt a stag, which is a large and valuable animal but requires cooperation between the two hunters. The other hunter can choose to hunt a rabbit, which is smaller and less valuable but can be caught alone. The optimal outcome for both players is to hunt the stag, but this requires cooperation and trust. If one player decides to hunt the rabbit, the other player is likely to do the same, resulting in both players missing out on the more valuable prey.

The Tragedy of the Commons: The Tragedy of the Commons is a game theory scenario in which a shared resource is depleted due to overuse by individuals acting in their own self-interest. In this scenario, a group of people are all using a shared resource, such as a lake or a fishery. Each person is motivated to take as much of the resource as they can, in order to maximize their own individual benefit. However, as more and more people take from the resource, it becomes depleted and the overall benefit for everyone decreases. The tragedy of the commons highlights the importance of collective action and cooperation in order to preserve shared resources for future generations.

Related terms

• GameFi: A decentralized financial ecosystem for the gaming industry that aims to create a new, blockchain-based financial infrastructure for the gaming world.

• Game Channel: A type of payment channel used in blockchain technology to facilitate instant and secure transactions between two parties in a game.