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Microeconomics (Chapter 9)
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Key Concepts:
Terms in this set (19)
basic elements of a game
the players, the strategies available to each player, and the payoffs each player receives for each possible combination of strategies.
cartel
a coalition of firms that agree to restrict output for the purpose of earning an economic profit.
commitment device
a way of changing incentives so as to make otherwise empty threats or promises credible.
commitment problem
a situation in which people cannot achieve their goals because of an inability to make credible threats or promises.
credible promise
a promise to take an action that is in the promiser's interest to keep.
credible threat
a threat to take an action that is in the threatener's interest to carry out.
decision tree (game tree)
a diagram that describes the possible moves in a game in sequence and lists the payoffs that correspond to each possible combination of moves.
dominant strategy
one that yields a higher payoff no matter what the other players in a game choose.
dominated strategy
any other strategy available to a player who has a dominant strategy.
nash equilibrium
any combination of strategy choices in which each player's choice is his or her best choice, given the other players' choices.
payoff matrix
a table that describes the payoffs in a game for each possible combination of strategies.
prisoner's dilemma
a game in which each player has a dominant-strategy, and when each plays it, the resulting payoffs are smaller than if each had played a dominated strategy.
repeated prisoner's dilemma
a standard prisoner's dilemma that confronts the same players repeatedly.
tit-for-tat
a strategy for the repeated prisoner's dilemma in which players cooperate on the first move, then mimic their partner's last move on each successive move.
Fact 1
economists use the theory of games to analyze situations in which the payoffs of one's actions depend on the actions taken by others. Games have three basic elements: the players; the list of possible actions, or strategies, from which each player can choose; and the payoffs the players receive fro those strategies. The payoff matrix is the most useful way to summarize this information in games in which the timing of the players' moves is not decisive. In games in which timing matters, a decision tree provides a much more useful summary of the information.
Fact 2
equilibrium in a game occurs when each player's strategy choice yields the highest payoff available, given the strategies chosen by the other.
Fact 3
a dominant strategy is one that yields a higher payoff regardless of the strategy chosen by the other player. In some games such as the prisoner's dilemma, each player has a dominant strategy. Equilibrium occurs in such games when each player chooses his or her dominant strategy. In other games, not all players have a dominant strategy.
Fact 4
equilibrium outcomes are often unattractive from the perspective of players as a group. The prisoner's dilemma has this feature because it is each prisoner's dominant strategy to confess, yet each spends more time in fail if both confess than if both remain silent. The incentive stricture of this game helps explain such disparate social dilemmas as excessive advertising, military arms races, and failure to reap the potential benefits of interactions requiring trust.
Fact 5
individuals often can resolve these dilemmas if they can make binding commitments to behave in certain ways. Some commitments-such as those involved in military-arms-control agreements- are achieved by altering the material incentives confronting the players. Other commitments can be achieved by relying on psychological incentives to counteract material payoffs. Moral sentiments such as guilt, sympathy, and a sensee of justice often foster better outcomes than can be achieved by narrowly self-interested players. For this type of commitment to work, the relevant moral sentients must be discernible by one's potential trading partners.
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