Purpose?
Strategic Thinking &
Decision Making
Introduction to Game Theory
Strategic & Extensive Form Games 1
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
Case: To Jail You Go.
The police, in the dead of night, have apprehended two burglars - you and me - outside an
apartment block. They have also recovered a knife from each of us. Keen to solve an old
crime in the neighbourhood, they have thrown both of us in solitary confinement. After
suitable threats and third degree methods they have told us to confess, or go to jail.
Each of us, held separately and unable to communicate with the other, has been given the
following options.
If one of us confesses and implicates the other (who did not confess), the betrayer can go
free while the other gets 20 years imprisonment. If neither of us confesses and betrays the
other, the police will charge us for carrying a weapon and both of us will go to jail for 1 year. If
both of us confess and implicate the other, each will be jailed for 10 years.
You cannot discuss with anyone, think loudly, or make any comment. Consider your situation
carefully for 5 minutes and write down your choice of action (from the options below). Do not
reveal your intention and make sure no one can see the choice you make. Remember, you
are being held incommunicado and can make only one choice.
Or,
Do not confess
Confess and implicate the other person
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
Case: A game of roulette.
You have been invited to play roulette. Your host has provided everyone with Rs. 100/- worth of chips. The
person who amasses the largest fortune at the end of the evening not only takes the money home, the
generous host has also promised to present two Business Class return tickets to Hawaii.
At the last spin of the roulette wheel, you are ahead with Rs. 800/- worth of chips. The runner-up at this stage is
Roshan (or Roshni depending on your preference!) (S)he has Rs. 300/- in winnings. Other guests are not in
contention, they are content watching.
Just before the last round the runner-up offers you a deal. (S)he is willing to pool in her/his winning with yours,
give you half share and take you along to Hawaii as her/his companion. Heady with success and a good bit
of champagne you refuse. And so the last round has to be played out.
A roulette wheel has 0 to 36 numbers on it. You bet where the ball will fall when the spinning wheel stops. The
house wins when the ball lands on zero. Numbers 1 to 36 are alternately coloured red (odd numbers) or black
(even). The safest bet is pick red or black. The winning probability of 18/36 returns Rs. 2 for every Rupee
placed.
After careful deliberation Roshni (or Roshan) places the bet: her/his entire stake of Rs. 300 that the ball would
land on a multiple of three. The bet is 2:1 (on a chance of 12/36). (S)he will collect Rs.900 if (s)he wins. Now it is
your turn.
Q1. What would you bet on and how much? Write down your bet.
Q2. If you were the runner-up, what would you have done in the first place?
Answer this question as if Q1 was never asked.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
Anticipating your competitors
behaviour is fundamental to
crafting strategy.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
Game Theory
Study of rational behaviour in interactive, interdependent situations
Useful tool for making strategic choices. Does not guarantee winning.
Robust framework for strategic thinking
Assumes human being is a rational agent
Utility maximisation is the principal objective
Recent work on extended rationality
Study of conflict and co-operative games
Can be helpful to formulate strategies for competitive advantage
In conflict and competitive situations
In co-operative games
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
What is a game?
Characteristics of a game
Players
Strategies
Payoffs
Information
Perfect: rules, strategies, and outcomes are known to all and
each knows that others know
Imperfect: information is probabilistic, or partly known
Games of conflict or co-operation
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
Types of games
1. Simultaneous (Strategic Form)
Players act without knowledge of opponents move
2. Sequential (Extensive Form)
Observe other players move before making your own move
3. Combination: Simultaneous games played sequentially
4. What types of games are these?
4X100 metre relay race: simultaneous or sequential?
Formula 1 motor racing?
Voting by secret ballot? Voting by show of hands?
Combination game..?
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
Extensive Form Games
(Sequential)
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
game tree
R can see s/he cannot win if her/
his bet is 1:2 or less. It has to be
300 on Black
1:3 or higher.
Player 2
300 on Black
[Black]
600, 1100
300 on multiple of 3
800 on multiple of
3
[36]
900, 1100
[Red]
0, 500
[24]
600, 2400
IIMB PGP 2015-17, Term 5
Roshni/
Roshan
Player 2 can see that any bet other
than what R has placed cannot
assure victory.
[22]
600, 0
300 on Black
Player 2
300 on multiple of 3
[33]
900, 500
[24]
900, 1400
Strategic Thinking & Decision Making, Lecture 2
[22]
0, 500
9
Rollback Equilibrium
Rule: Look forward and reason back
Players should be able to observe earlier moves
Moves once made cannot be reversed
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
10
Sharing game
Dad buys Ram a scoop of ice cream and tells him to share
with brother Shyam. How much of it should Ram give
Shyam?
Since there is no loss, they can continue to negotiate and
argue forever.
Lets assume a finite cost of time..
How much should Ram offer Shyam if the ice-cream
melts by half scoop each time an offer is made and
refused?
1 0
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Bargaining
Ram: 1 scoop
Keep all
50:50
Shyam
Accepts
Shyam
Rejects
Shyam
50:50
scoop
Keep all
Ram
Accepts
Ram
Rejects
:
IIMB PGP 2015-17, Term 5
Rejects
Shyam
0:0
Rejects
0:0
Accepts
0:
scoop
50:50
Ram
Accepts
Strategic Thinking & Decision Making, Lecture 2
Keep all
Ram
Accepts
0:
Rejects
0:0
12
How much should Ram offer Shyam if the icecream melts by 1/3rd scoop each time an offer is
made and refused?
1 2/3 1/3 0
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Ice-cream melts 1/3rd each time an offer is refused
Ram: 1 scoop
R2/3 : S1/3
50:50
Shyam
Accepts
Shyam
50:50
Ram
Accepts
1/3 : 1/3
Rejects
1/3 scoop
Keep all
Accepts
Shyam
Shyam
Rejects
Rejects
2/3 scoop
2/3 scoop
S Keep
Keep all
all
R
Rejects
Ram
Ram
Accepts
1/3 scoop
R Keep all
0 : 2/3
Rejects
Shyam
Accepts
2/3 : 1/3
2/3 scoop
R1/3: S2/3
50:50
Ram
Rejects
Accepts
1/3 scoop
1/3 : 0
1/3 : 1/3
1/3 scoop
2/9 : 4/9
How should sharing change if ice cream melts 1/2, 1/4th, 1/5th, 1/6th, 1/7th?
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
14
Case: Standard Metals:
Standard Metals is among three suppliers short-listed by Hindustan Construction Co. (HCC)
for supply of steel reinforcement bars. The other two parties Naveen Steels and Sterling
Traders are much smaller in size but have quoted the same price. The quality of the product
is according to the relevant Indian Standard and samples of all three vendors have been
approved after they passed necessary tests. According to tender rules, all who have
quoted the same price will be given equal share of the business.
In deference to their size and reputation, HCC has invited Standard first to finalise the order.
After finalising their order, HCC will invite the other two parties for finalising their orders.
Mr. Sharma, Vice President of Standard Metals, has come with the brief from his Managing
Director to wrest at least 40 per cent of the business. He has been instructed to emphasise
their size, reputation and history of good relationship with HCC. In the meeting, HCC has
offered a third of the volume to Standard.
What should Mr. Sharma do?
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
15
Strategic Form (Simultaneous) Game
Prisoners dilemma
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Representing Prisoners Dilemma
Jerry
Confess
Confess
Dont
10, 10
0, 20
20, 0
1, 1
Tom
Dont
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Toms Payoff Matrix
Confess
10
Dont
20
UT (c, d)= 0; UT (c, c)= 10; UT (d, c)= 20; UT (d, d)= 1
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Jerrys Payoff Matrix
Confess
Jerry
Dont
10
20
UJ (c, d)= 0; UJ (c, c)= 10; UJ (d, c)= 20; UJ (d, d)= 1
What should Jerry do?
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
19
Prisoners Dilemma Equilibrium
Jerry
Confess
Confess
Dont
10, 10
0, 20
20, 0
1, 1
Tom
Dont
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
20
Dominant Strategy
If the same strategy is chosen for each of the different
combinations of strategies a player might face, that
strategy is called a "dominant strategy" for that player in
that game.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
21
Dominant strategies.1 ?
Player B
X
15, 5
10, 8
12, 0
4, 1
Player A
Strict dominance!
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Dominant strategies.2 ?
Player B
X
15, 5
10, 8
12, 1
4, 1
Player A
A P is strictly dominant. B Y is weakly dominant.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Equilibrium Concept
Equilibrium is a stable solution: a state from which neither player has any
reason to move.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Dominant strategy equilibrium
If, in a game, each player has a dominant strategy, and
each plays the dominant strategy, then that combination of
(dominant) strategies and the corresponding payoffs are said
to constitute the dominant strategy equilibrium for that
game.
RULE:
In Strategic Form games if you have a dominant strategy, use
it regardless of what the other player uses.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Signature characteristics of PD
Simultaneous game
They cannot communicate with each other
Both parties have their dominant strategies
Playing their dominant (best) strategies makes
them worse off than they expected
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Issues Prisoners Dilemma
Does it explain actual experience?
India-Pakistan nuclear weapon / Cold War post WW 2
Traffic jam on Bangalore roads
Nations : cutting carbon emissions
Does it reflect interaction among > 2?
Paying for a new elevator in a low-rise apartment
What would happen if the game was repeated many
times?
What if they could communicate with each other?
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Caution
Outcome of a dominant strategy is not the best
possible outcome
The worst result of dominant strategy is not better
than the best outcome of any other strategy
Dominant strategy applies to simultaneous as
well as sequential games
It doesnt always exist!
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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Why these esoteric concepts?
Recognise situations you may find yourself in. Craft
effective strategies / responses for them.
Create / shape situations to your advantage
Bidding / tender system design
Other applications
Solving civic problems
International trade negotiations
Building a new seaport, container terminal
Others.
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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My secret is practice.
David Beckham
IIMB PGP 2015-17, Term 5
Strategic Thinking & Decision Making, Lecture 2
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