Game Theory

·         What are the main ideas behind game theory?

Game theory is an umbrella term that was first developed economically to describe the actions of firms and corporations. Later is was used in biology, mathematics, and the animal kingdom. Game theory is used to describe how the actions of one group are based on what the reactions of another would be. There is evidence of game theory in our current economy. WIth an oligopoly, game theory will come into play in certain extents, because each company wants to maximize it's own profit. This can be seen with soft drink, appliance, and movie production companies.

The pay off matrix assumes two different outcomes for two different firms and can be set up in a grid. It can be applied to any situation, not just an economic one. Here is an example of a jail time matrix, and the consequences for each. Each decision is based on the liklihood of what the other will do.

Collusion is the illegal practice of two firms agreeing to set the price of their product or the quantities that each will produce in order to acheive maximum profts. In reality, both firms will cheat on the assumption that the other is cheating, thus driving down the profits they make.
A Cartel is a legalized association of sellers acting in unison. Together they form a mass firm that sets prices and quantities.