Game theory was first developed by John von Neuman and Oskar Morgenstern who published in 1944. work titled "Theory of games and economic behavior." This theory allows you to analyze and predict the actions of participants of the game, assuming they take rational decisions, leading to maximize profits, and know the rules of the game. For two person games you can build a simple payoff matrix (i.e. results) depending on what strategy players choose. There are a zero-sum games (when one person wins the second has to lose) and non-zero sum games.
Prisoner's dilemma is one of the most popular games, it presents a situation where two persons accused of common crime are heard separately, each of them was informed by the police, that their judgment depend on what both defendants will choose: "admit" or "do not admit" .
The dominant strategy
With dominant strategy one of the players can determine more favorable choice for themselves regardless of which strategy is chosen by another player. In the prisoner's dilemma if player A will "admit to crime" it will be preferable to player B also to admit, but when A refuses to admit for B it is better to admit. The strategy "admit" is for player B a dominant strategy. Player A is in similar situation, which shows that this game involves the dominant balance (all players can determine the dominant strategy).
Game theory is used in many different areas, e.g. psychology, sociology, economics and politics. In economics, the theory is used for the analysis which include: the relationship between the companies in the oligopoly, duopoly, perfect competition; commercial policy; conflicts on the market.
- Rabin, M. (1993). Incorporating fairness into game theory and economics. The American economic review, 1281-1302.