The Game Theory

There are a number of limited companies in the market. These companies must adopt a strategic behavior, as each decision made by one company creates an impact on the other companies. There are various theories that talk about making and managing strategies.

The game theory is one such theory that captures the behavior in strategic situations mathematically, and is based on pure rationality. A game is a situation in which the participating players (companies) make strategic decisions, taking into account all possible actions and responses of the other participants. These strategic decisions lead to profits, which is mostly measured in terms of money. The other participants also receive remuneration or benefits at the end of the game.

The objective of the game theory is to determine the optimal strategy of each player. For this study the interest will mainly be in non co-operative games, which is a type of game that produces accurate results, after modeling situations to the finest details.

In any game, the most important aspect of making a strategic decision revolves around including or understanding the perspective of the adversary. If the adversary is rational, possible answers to a company's actions can be deduced from this process. It is easy to include or understand the perspective of the adversary. However, even in simple games, it often happens that people are unaware of the positions of their adversaries, or evaluate it badly, and end up misjudging the rational answers that these positions imply.

A dominant strategy is an optimal strategy (= best) regardless of the actions of competitors. There is an example that illustrates this type of strategy in a duopoly.Suppose that firms A and B sell competing goods and to decide whether to engage in advertising campaigns. The decision of each company will be affected by that of its competitor. Possible outcomes of this game are represented in the matrix of gains.

If the two companies decide to advertise, A will make a profit equal to10 while B has a profit equal to 5. If A is advertising and not B, then A wins 15 and B gets nothing. The table also describes the gains for the other two possibilities.

What strategy should each of the two companies adopt ? Consider Company A, it seems clear that it must be using an advertising campaign since anything to do B, it gets even more by making it as if it did not make it. If B does not advertise, then A wins 15 by advertising instead of 10 if it does not. Thus, advertising is a dominant strategy for the company A.

When both players have a dominant strategy, the outcome of the game is called dominant strategy equilibrium. This type of game is easy to analyze because the optimal strategy of each player is independent of possible actions of the other player.

Unfortunately, there are games in which players do not always have a dominant strategy. This can be seen by slightly modifying the example of advertising. The matrix of gains in the table given is identical to the previous element by: the last line of the last column – if there is no business in advertising, the company always wins.

Tags: The Game theory, examples of companies and use of advertising