What is Game theory?
Cornerstone for the social sciences
Game theory is a cornerstone for the social sciences. It is a set of mathematical models of conflict and cooperation based on a simple assumption: Decision makers – e.g., people, companies or countries – form beliefs concerning the relative likelihoods of events in their environments and, while respecting their individual preferences, they react to incentives. This approach is extremely powerful and touches on myriads of phenomena in the economic, social, political, and personal spheres: a consumer may buy a brand-name product because it signals status, which means that companies have incentives to invest in certain forms of advertising – possibly at the cost of not investing in quality improvements; a doctor who earns less when treating a patient from the public health system has incentives to give preferential treatment to a private patient; an impatient negotiator will give in more easily than if she is patient, so she has incentives to appear patient even when she is not, which means that many negotiators may in fact not be as patient as they appear to be; voters may support a less preferred candidate who has a higher chance to win, which means that the best candidate may lose the election; a politician in a democracy has incentives to act according to current voter sentiment which means that in political competition long-term welfare considerations may be ignored. The list of examples could be continued endlessly.
Practical decision making tool
A good understanding of game theory is important for all practical decision making and, as such, can be a powerful tool at any work place. At the same time, game theory helps those who design environments or institutions in order to provide good incentives and to achieve desirable outcomes; this concerns in particular firm managers, regulators, and lawmakers.
Game theory is young. It has developed in the second half of the 20th century. Many issues are hotly debated in the scientific discourse and new questions arise continually. One branch of current research asks to what extent decision makers behave in a systematically non-rational way and to what extent this can be exploited by other decision makers. Firms, for instance, could have incentives to systematically control the perceptions of their customers or to exploit their myopic consumption behavior.
Decision environments are constantly and sometimes dramatically changing around us. The development of the internet, for example, has copiously changed the creation and distribution of information – internet search machines collect consumer profiles, price comparison portals and consumer reviews make competition more transparent, and political revolutions emerge in decentralized social networks. Thus, new opportunities for cooperation arise along with new conflicts, and new strategies and solutions become necessary. To find these, game-theoretic models are indispensable.
Many courses in our Bachelor programme make use of game-theoretic methods, and a specialized course on game theory is offered regularly. For the interested layperson, Game Theory. A Very Short Introduction by Ken Binmore is wonderful bedtime reading. This nice video was created as an introduction for high-school students.