Explain game theory?

Game theory was pioneered in 1950s by John Nash. “ A GAME is any interaction between
multiple people in which each person’s payoff is affected by the decisions made by
others”. Game theory is incredibly wide-ranging , and it’s used all the time by
economists, political scientists, biologists, military tacticians,to name just a few.

Game theory has two main branches:

1)Cooperative

2)noncooperative or competitive

Noncooperative/Competitive:

Non-cooperative covers competitive social interactions where there will be some winners
and some losers. Probably, the most popular thought experiment in competitive game
theory is the prisoner’s dilemma .Here is great video on this from Khan acadmey
(Prisoners' dilemma and Nash equilibrium). So the Nash Equilibrium in the prisoner’s
dilemma case is when both decides to confess.

The prisoners dilemma is not a cooperative game : all of the players stand to gain from
stabbing each other form the back. The Prisoner’s dilemma is just one example of a
competitive game,but the basic idea is generally “when you are competing with
others,it makes sense to choose the course of action that benefits you the most no
matter what everyone else decides to do”.

Cooperative Game theory :

In this every player has agreed to work together towadrs a common goal.When it comes
to cooperative games, game theroy’s main question is how much each player should
contribute to coalition(group of players in cooperative game), and how much they
should benefit form it. In other words it tries to determine what is fair. Where
competitive game theory has the Nash Equilibrium , cooperative game theory has what’s
called the Shapley Value. The Shapley Value is a method of dividing up gains or costs
among players according to the value of their individual contributions.

Here is a cookies baking example that explains Shapley value,

You're baking cookies, and your friend is baking cookies. In an hour, you can bake ten
cookies when you're working alone. Your friend though, is like, a cookie wizard, and in
the same hour, working alone, he can bake twenty cookies. When you decide to team
up. When you work together, you streamline your process. One person can mix up all the
batter at once or whatever, which saves you a lot of time. So after an hour, you have
forty cookies. But if you'd each been working alone, you'd only have made 30 cookies in
the same hour. Then you sell each of those cookies for a dollar.,Now you've got forty
dollars. How do you divide up the loot? The Shapley value equation tells you to think
about it like this: If you take the fact that you can make ten cookies an hour, and subtract
them from the total, that gives your friend credit for the other thirty cookies. That's what
happens when you remove your friend from the system: their marginal contribution to
you is thirty cookies. But if you take the fact that your friend can make twenty cookies an
hour, and subtract that from the total, that gives YOU credit for twenty cookies. Because
if you're removed from your friend's cookie-making system, your marginal contribution
to them is twenty cookies. In the first case, your value to the coalition was only ten
cookies.

But in the second case, your value to the coalition is twenty cookies. According to the
Shapley value equation, you should average those two numbers together. Ten plus
twenty is thirty, divided by two is fifteen. So, the Shapley value equation says that you
should get fifteen dollars, and your friend should get twenty-five. This method can be
scaled up to coalitions with hundreds of players, by finding their marginal contributions
to every other player and then calculating the average of all of those numbers.
Interactions can get much more complicated than the Prisoner's Dilemma or baking
cookies, so there's a lot more to game theory.

But it comes down to this: in a competitive situation, game theory can tell you
how to be smart. And in a cooperative situation, game theory can tell you how to
be fair.