Game theory for decision making in interactive, competitive business scenarios
Game theory is the science of strategic thinking. And strategic thinking, in this respect, is the art of outdoing an adversary, knowing that he is trying to do the same to you. Your behaviour is to be guided neither by ethics, morality or etiquettes but by self interest.
Single Party and Multi Party Decision making
Decision making under single party conditions i.e. certainty is rather easy. Only one party i.e. you, is to take a decision, with total knowledge of the environment. E.g. buying a car, taking a marriage decision, selecting a candidate etc. If you work hard to find out all about the other party, you’ll be pretty well equipped to take a good decision. it is true that you may not know all about the other party. However, that is so only because of lack of effort on your part and not because of any actions on part of the other party. The other party is ‘inert’ i.e. it does not try to influence the situation.
On the other hand, environment of uncertainty is one in which two parties, not one, are trying to influence the same issue. You are to take a decision, while still uncertain of what decision is being taken by the other party. The uncertain future could be due to the other party also taking a decision, or because the actual state of the other party is not ‘knowable’ in advance. In either case, the final environment in which your decision will actually play out, can not be known in advance.
In competitive scenarios, or when dealing with truly random events, this is normal. E.g. when making a market decision, you have to plan a few years ahead. What will happen to the market in those years can not be known in advance. While you can assess possible scenarios of the future market, you can not know which of these will actually play out. You have some options and you must choose from them now, to cater for what the market will throw up later.
Game Theory for Multi party decisions
Work, life and business is a constant stream of decisions. What career to follow, which businesses projects to back up, whether to price the new product high or low are just some examples. The common point is all these situations is that you do not work in a vacuum. Instead, you are surrounded by active decision makers whose choices interact with yours. This interaction has an important effect on your own thinking and decisions. They are intelligent and purposive people and their aims conflict with yours but they include some potential allies. Your own choices must allow for the conflict and utilize the cooperation. A plan of action appropriate to such situations is called a strategy.
Game theory teaches you how smart ruthless people should act i strategic settings.
In game theory, there are three parts to any game –
- A set of players.
- Moves the players can make
- Payoffs the players might receive.
For each move, two type of strategies are possible – dominant and dominated. Dominant strategies has payoffs such that, regardless of the choice by other players, no other strategy will give you better payoffs. Dominated strategy, on the other hand, is one which has payoffs which are equal to or less than the other strategies of yours, irrespective of the choice by other players.
In Game theory, you look ahead and reason back.
- If you have a dominant strategy, use it.
- If not, look for dominated strategies and eliminate them.
- Whenever you eliminate a dominated strategy, immediately look whether you now have a dominant strategy. If yes, use it. If not, look for the next dominated strategy to eliminate.
- When there in no dominant strategy seek equilibrium. Nash equilibrium is a set of outcomes such that no player has any incentive to change the strategy.
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