GAME

THEORY
 Game theory may be defined as – “ a
body of knowledge that deals with
making decisions when two or more
intelligent and rational opponents are
involved under conditions of conflict and
competition.”
 Every game must have a character of
competition and two or more players involved in
it with some predetermined rules.
 The game results either in victory of one or the
other or sometimes a draw.
 Therefore, game represents a conflict between
two parties or countries or persons.
 Player Y

H T

Y pays Rs. 80 to X X pays Rs. 60 to Y

H
Player X
X pays Rs. 60 to Y Y pays Rs. 80 to X
T

Thus,
A competitive situation =
Game
 Gain of one player is the loss of other player

 Sum of gains to both the players is bound to be

zero

 Depicted by Rectangular Pay-off Matrix

  A strategy is a course of action taken by one of
the participants in a game and the pay-off is the
result or outcome of the strategy.
 An Example:
Firm 2
No Price
Price Increase
Change
No 10,10 100, -30
Price
Firm 1 Change
-20, 30 140, 35
Price
Increase
 Players adopts pessimistic attitude and plays
safe.

 Players decides to play that strategy which

corresponds to the maximum of the minimum
gains for his different courses of action.
 Similarly, player B wants to play safe.

 Then he selects that strategy which corresponds

to the minimum of the maximum losses.
 Course of action or strategy which puts the player
in the most preferred position, irrespective of the
strategy of his competitors.

 Any deviation from this strategy results in a

decreased pay-off for the player.
 Expected pay-off of the play when all the players
of the game follow their optimal strategies.

 Fair – if the value of the game is zero.

 Unfair- if the value of the game is non-zero.

(Saddle Point
Exists)

Arithmetical Graphical Linear

Method Method Programmin
g Method
With saddle point…….
 It is an Two person Zero –sum game.
 It uses pay-off Matrix.
 It involves Maximin principle and Minimax
principle.
 Its objective is to bring out Optimal strategies
for both players.
 To derive Value of the Game.
• The maximizing player arrives at his optimal strategy on the
basis of the maximin criterion, while the minimizing player
strategy is based on minimax value. The game is solved
when the maximin value equals minimax value. And when
they both equalize that particular point is called as saddle
point.
• Develop the payoff- matrix.
• Identify row minimums and select the largest of these
as player one’s maximin strategy.
• Identify column maximums and select the smallest of
these as the opponents minimax strategy.
• If the maximin value equals minimax value, the game
is a pure strategy game and that value is saddle point.
• The value of the game of player one is the maximin
value and to player two , the value is the nagative of
minimax value.
 According to the principle the size of
the game’s pay-off matrix can be
reduced by eliminating a course of
action that is so inferior to another
that it can never be used.
Such a course of action is said to be
dominated by others.
 A dominant strategy is the one that
is optimal no matter what the
opponent does.
 In general the following rules of dominance are used to
reduce the size of the pay-off

 If all the elements in the ith row of the pay-off matrix are
less than or equal to the corresponding elements of the
other row (say the jth row) then the ith strategy is
dominated by the jth strategy.
 If all the elements in the rth column of the pay-off matrix
are greater than or equal to the corresponding elements
of the other column (say the sth column) then the rth
strategy is dominated by the sth strategy.
 Player B

B1 B2 B3 B4

7 6 8 9
A1

A2 -4 -3 9 10
Player A

A4 3 0 4 2

10 5 -2 0
 A1 gives more gain than A3 in all conditions (for all strategies of B) i.e. A1
dominates A3.

Thus the effective pay off matrix shall become :

Player B

B1 B2 B3 B4

7 6 8 9
A1

A2 -4 -3 9 10
Player A

A4 10 5 -2 0
 Payoff matrix for Advertising game

Firm A and B sell competing products and are deciding whether to undertake
advertising or not
Firm B

Advertise Don’t Advertise

10,5 15,0
Advertise

Firm A
6,8 10,2
Don’t Advertise
 Modified Advertising Game

However, not every game has a dominant strategy for each player.

Following is an example for the same:

Firm B

Advertise Don’t Advertise

10,5 15,0
Advertise

Firm A
6,8 20,2
Don’t Advertise
 Suppose there are two competitors, X and Y, planning to sell soft
drinks on a beach. They both sell the same soft drinks at the same
price.
The beach is 200 yards long, and the sunbathers are spread
evenly across its length.
Where on the beach should they locate?
Ocean

0 A 200

Beach
The “beach location game” can help us
understand a variety of phenomena.

For e.g. it explains why two or three

petrol pumps, or several roadside
restaurants, or several car dealers are
located close to each other on a two- or
three- mile stretch of road.
(Games Without Saddle Point)
Two breakfast food manufacturing firms A & B are competing for an increased market share. To
improve its market share both the firms decide to launch the following strategies :

A1, B1 = Give Coupons

A2, B2 = Decrease Price
A3, B3 = Maintain Present Strategy
A4, B4 = Increase Advertising

The pay-off matrix describes the Increase in market share for firm A & decrease in market hare
for firm B.
Firm B

B1 B2 B3 B4
A1 35 35 25 5

Firm A A2 30 20 15 0
A3 40 50 0 10
A4 55 60 10 15
EXAMINE THE OPTIMAL SRTATEGIES FOR EACH FIRM & THE VALUE OF THE
GAME
 STEPS:

1. Search For Saddle Point. There is no saddle point.

2. Observe if pay-off can be reduced in size by rules of dominance.

We note 2nd row is dominated by 1st row because pay-offs are less
attractive for firm A.

Firm B

B1 B2 B3 B4
A1 35 35 25 5
A2 30 20 15 0
Firm A
A3 40 50 0 10
A4 55 60 10 15
Thus deleting 2nd row reduced matrix becomes :

Firm B

B1 B2 B3 B4

A1 35 35 25 5
Firm A A3 40 50 0 10

A4 55 60 10 15

Each element of 2nd column is more than the corresponding elements

in 1st column

Therefore

2nd column is dominated by 1st column because pay-offs are less attractive
for B. (Delete 2nd column)
Thus deleting 2nd column reduced matrix becomes :
Firm B
B1 B3 B4

A1 35 25 5
Firm A
A3 40 0 10

A4 55 10 15

Further comparing row 2 & 3 , then column 1 & 2 , delete less attractive
row
column’s from A’s & B’s point of view.

The reduced pay off matrix is as shown :

Prob.
Firm B
B3 B4
Firm A p1
A1 25 5
p2
A4 10 15

Prob. q1 q2
No saddle point, so use mixed strategies.

For firm A :

Let p1 & p2 be prob. of selecting strategy A1 (Give coupons) & A4( Increase
Advertising) respectively.

B’s strategy Expected Pay-off to firm A

B1 25p1 +10(1-p1)
B2 5p1 + 15(1-p1)
Expected gain should be equal

25p1 +10(1-p1) = 5p1 + 15(1-p1)

We get p1=1/5 & p2 =1-p1 = 4/5

Player A would play first strategy A1 with prob. 1/5 & A2 with prob. 4/5
For Firm B :

Let q1 & q2 be prob. of selecting strategies B3 ( Maintaining present strategy) &

B4 (Increasing Advertising)

Expected loss to firm B when firm A uses its A1 & A4 strategies :

A’s strategy Expected Pay-off to player B

A1 25q1 +5(1-q1)

A2 10q1 + 15(1-q1)

By Equating
25q1 +5(1-q1) = 10q1 + 15(1-q1)

We get q1 = 2/5 & q2 (1-q1) = 3/5

Optimal strategy for both manufacturers :

Firm A should adopt strategy A1 ( Give Coupons) & strategy A4

( Increasing
Advertising) 20% time. (p1)

While firm B should adopt strategy B3 (Maintaining present strategy) &

strategy
B4 ( Increasing Advertising) 40% time.(q1)

The Value of Game = Expected gain to firm A

(25 X 1/5) + (10 X 4/5) = 13

(5 X 1/5) + (15 X 4/5) = 13

Value of Game = Expected loss to firm B

(25 X 2/5) + (5 X 3/5) = 13

(10 X 2/5) + (15 X 3/5) = 13
 Pepsi calculated the market share of
two products, Pepsi and Mountain Dew,
against its major competitor Coca Cola’s
three products, Coca Cola, Fanta and
Sprite and tried to find out the effect of
additional advertisement in any of its
products against the other.
Pepsi/Coca Cola Sprite Fanta Coca Cola

Mountain Dew 15 6 7

Pepsi 10 12 20
Pepsi/Coca Sprite Fanta Coca Minimum
Cola Cola
Mountain 15 6 7 6
Dew
Pepsi 10 12 20 10
Maximum 15 12 20
Maximin= 10 & Minimax=
12

i.e. Maximin is not equal to

Minimax
=> No saddle point.
 Pepsihas two products, Pepsi and
Mountain Dew, with probability of their
getting selected for advertisement equal to
P1 and P2, respectively, such that:

P1 + P2= 1

or P2= 1 – P1.

& P1, P2 either > or = 0.

 Foreach of the pure strategies
available to Coca cola, i.e. its three
products (Coca Cola, Fanta and
Sprite), expected pay-off of Pepsi can
be represented by plotting straight
lines.
Pepsi/Coca Cola Sprite Fanta Coca Cola

Mountain Dew 15 6 7

Pepsi 10 12 20
Coca cola’s Product Pepsi’s pay-
off(market share)
Sprite 15p2 + 10p1

Fanta 6p2 + 12p1

Coca Cola 7p2 + 20p1

Pepsi/ Coca cola Sprite Fanta Coca Cola

Mountain Dew 15 6 7

Pepsi 10 12 20
•Coca Cola’s strategy is
to yield worst result to
Pepsi.

•Pay-offs
to Pepsi are
represented by lower
boundary.

•Pepsi’s strategy is to
maximize its expected
gain, i.e. market share.

•Maximum pay-off is at
highest point on this
lower boundary.

Thus maximum gain is

found at P, at the
intersection of two lines,
representing the pay-offs
corresponding to Sprite
and Fanta.
 Pepsi/ Coca Cola Sprite Fanta

Mountain Dew 15 6

Pepsi 10 12

& solution is found at the intersection of the following two lines:

Coca cola’s Product Pepsi’s pay-

off(market share)
Sprite 15p2 + 10p1

Fanta 6p2 + 12p1

Pay-off corresponding to Sprite = Pay-off corresponding to Fanta

=> 15p2 + 10p1 = 6p2 + 12p1

Since, p1 + p2 = 1
Putting
p2 = 1 – p1 and solving…
Gives
p1 = 9/11 or 81.81%
p2 = 2/11 or 18.18%

Which means, Pepsi should advertise Mountain Dew 18.18% times

and
Pepsi 81.81% times of total advertisement in order to obtain
optimum result irrespective of rival product’s strategy.

Substituting p1 and p2:

We get, Value of the game = 120/11.

The non-zero-sum games refer to a
situation where there exists a jointly
preferred outcome. Existence of a
jointly preferred outcome means that
both players may be able to increase
their pay-offs through some form of an
operation or agreement concerning
actions to be chosen.
 Cooperative games : Players are assumed to be equal to
realize that it is mutually advantageous to cooperate on any
& every one which is likely to benefit at least one of players
without affecting them adversely.

 Non cooperative games: There is no communication

between participants & there is no way to reach
enforcement agreements.

Most popular form of non-cooperative game is

‘Prisoners Dilemma’
 Suspect 2

Not Confess Confess

Not No Prison Term 15 years prison term for 1;
Confess for both Suspended sentence for 2
Suspect 1
Confess Suspended sentence 8 years prison term for both
for 1;
15 years prison term
for 2