"econ-game-theory"

Game Theory Basics

Overview

Game theory models strategic interactions where each player's outcome depends on others' choices. It provides tools to predict behavior, identify stable outcomes (equilibria), and design mechanisms that align incentives.

Framework

IRON LAW: Define Players, Strategies, and Payoffs BEFORE Analyzing

Every game requires three elements explicitly defined:
1. Players — who are the decision-makers?
2. Strategies — what choices does each player have?
3. Payoffs — what does each player get for each combination of choices?

Analyzing a "game" without a payoff matrix is just storytelling.

Analysis Steps

1. Identify players and their available strategies
2. Build the payoff matrix (simultaneous) or game tree (sequential)
3. Check for dominant strategies per player
4. Find Nash Equilibrium — where best responses intersect
5. For sequential games: apply backward induction from terminal nodes
6. Evaluate efficiency — is the NE Pareto optimal? If not, flag cooperation opportunity
7. The resulting path is the Subgame Perfect Equilibrium

Output Format

# Game Theory Analysis: {Situation}

## Game Setup
- Players: {list}
- Strategies: Player 1: {A, B}, Player 2: {X, Y}
- Type: Simultaneous / Sequential

## Payoff Matrix (simultaneous) or Game Tree (sequential)

|  | Player 2: X | Player 2: Y |
|---|---|---|
| Player 1: A | (a1, a2) | (b1, b2) |
| Player 1: B | (c1, c2) | (d1, d2) |

## Analysis
- Dominant strategies: {if any}
- Nash Equilibrium: {strategy combination, payoffs}
- Pareto optimal? {yes/no — if no, explain the cooperation opportunity}

## Strategic Implications
{What should each player do? What mechanism could improve outcomes?}

Examples

Correct Application

Scenario: Two bubble tea chains considering price cut

	Chain B: Hold Price	Chain B: Cut Price
Chain A: Hold Price	(80, 80)	(40, 100)
Chain A: Cut Price	(100, 40)	(60, 60)