Have you ever heard of game theory? It sounds like a profound philosophical or scientific issue, right? In reality, game theory describes situations we frequently encounter in our daily lives. By effectively understanding these situations, we can anticipate and handle various scenarios. One classic story is the prisoner's dilemma, which many of you might be familiar with. Two suspects are interrogated separately. If both confess, they each receive a one-year sentence. If neither confesses, they both receive a five-year sentence. If only one confesses, the confessor is released, and the other receives a ten-year sentence. This classic story originates from game theory.
So, what exactly does game theory entail? This theory primarily studies phenomena characterized by conflict or competition. By thoroughly understanding the thought processes behind this theory, we can use game theory thinking to develop a winning mindset for life.
Table of Content
Let's get to know some of the most classic types of games:
Dollar Auction
In a bidding game, a group of people bids for one hundred dollars. The rules are as follows:
1.The bidding starts at 1 dollar
2.The highest bidder wins the auction
3.The second-highest bidder still has to pay their bid
In this game mechanism, no one wants to be the second-highest bidder who still has to pay. Therefore, bidding will keep increasing (unless the first person bids 1 dollar and no one else is interested). Typically, the bidding amount will stop at 99 dollars, as bidding 100 dollars makes no sense; at 99 dollars, at least there's a 1 dollar profit. However, what if the second-highest bidder reaches 98 dollars? They will keep bidding higher because they don't want to lose 98 dollars, striving to become the highest bidder. As long as the loss is less than 98 dollars, it's better than losing 98 dollars. But if the bid reaches 197 dollars, the potential loss would exceed 98 dollars, so rational bidders might stop there. The final penalty could be a loss of 97 or 197 dollars, while the other person would lose 196 or 98 dollars. Any further step will result in a loss greater than 98 dollars. Of course, there's also the possibility of endlessly escalating bids.
This is the model of the hundred-dollar bidding game. This model illustrates the common business scenario of price wars, where companies continuously lower prices to capture the market. In the model, the 197-dollar loss represents the bottom line of price-cutting.
Prisoner's dilemma
One of Warren Buffett's most classic actions was during congressional debates on campaign finance reform. He proposed that if the reform bill did not pass, he would donate $1 billion in political contributions to the party, either Democrat or Republican, that had the most votes in favor of the bill. This move forced both parties to vote in high numbers for the bill to secure the $1 billion. Ultimately, the bill passed. The main content of this bill was to prohibit any non-individual contributions to campaign funds, including those from corporations, unions, and political action committees, with individual contributions already being capped.
As a result, the bill passed, and Buffett didn't have to pay a single penny while achieving his desired outcome.
Stag Hunt
Two hunters go hunting together and can target two types of animals: deer and rabbits. Hunting a deer requires both hunters to cooperate, but a deer can provide food for five days for each hunter. A rabbit, on the other hand, can be hunted by one person alone but only provides enough food for two days.
Thus, there are three possible scenarios: both hunters hunt rabbits individually, both cooperate to hunt a deer, or they agree to hunt a deer together, but one betrays the other and hunts a rabbit to secure food for the day.
This game is similar to the prisoner's dilemma, but its premise is slightly different. The stag hunt game better illustrates the benefits of cooperation.
The Game Of Chicken
The most famous game of chicken in history is the Cuban Missile Crisis.
During the Cold War, the Soviet Union deployed ballistic missiles in Cuba to counter the threat from U.S. missiles. The situation was on the brink of war. The United States adopted a gradual approach, continually testing the Soviet Union's limits. It was akin to two fearless drivers heading towards each other, waiting to see who would swerve first and concede.
In the end, both sides negotiated and made concessions, leading to the removal of the missiles and the resolution of the crisis.
Ultimatum Game
Today, you meet a stranger, and I will give you $100, instructing you to share some of it with the stranger. You decide how much to give. If the stranger accepts, you both keep the money. If they refuse, I will take back the $100. You only have one chance, and remember, you will not meet the stranger again.
Typically, in this situation, most people would aim for fairness to ensure the stranger accepts, often offering close to or exactly 50% of the money. However, even if you give just $1, the stranger still gains something, since you hold the decision-making power. If they don't accept, they get nothing anyway.
However, in reality, various factors come into play, such as the stranger's pride, their desire to see what happens, or even encountering someone who demands $99, threatening that neither of you will get anything if you don't comply.
Understanding the four classic game theory models mentioned, have you noticed the common thread among them?
If there is continuous malicious competition, the outcomes are never optimal. However, cooperation always leads to the best results. Therefore, establishing "effective cooperation" is the most important principle in all competitive relationships.
At its core, cooperation is about building trust, making the other party trust you and be willing to collaborate.
So how can we increase trust?
In general business practices, trust can be increased by establishing binding contracts, involving third-party guarantors, and making joint business declarations. These measures raise the cost of betrayal, thereby encouraging cooperation.
Would you like to learn about workplace etiquette, communication skills, and negotiation strategies?
Further Reading :《Want to Be the King of Arguments? Principles and Mindset of Negotiation》
However, game theory is not that simple. The above scenarios are based on a rational perspective to determine the optimal outcome.
Let's now explore the three important concepts of game theory mechanisms!
Single or Repeated Games
If we consider "single games" or "repeated games," the situations change significantly.
Using the ultimatum game as an example, if considered as a repeated game, you wouldn't play it safe by offering half to the other person. Instead, you would likely lower the offer, knowing that if the other party doesn't accept, you can continue negotiating. Over time, the other party would realize how many opportunities they have lost, making them more likely to accept lower offers.
Nonzero-Sum or Constant-Sum Games
A zero-sum game refers to a situation where the total rewards remain constant, leading participants to compete fiercely to divide the rewards. In contrast, a non-zero-sum game means there is no fixed amount of rewards. Participants can increase the total rewards through cooperation, or conversely, their actions can lead to a loss of rewards.
"You drive a Mazda, no wonder you're stuck in traffic," is a classic line from Tony Leung in the movie "Island of Greed."
Those familiar with the scene should recall how Tony Leung negotiated the construction contract in the film. Initially, there was only one big project. To secure the current bid, he brought future projects into the negotiation, suggesting that he wouldn't compete for the future bids if they let him have this one. This is an example of turning a zero-sum game into a non-zero-sum game.
Although he ultimately achieved his goal by breaking the rules, this reflects a real-world situation.
Dynamic or Static Games
Rock-paper-scissors is a standard static game; you must react without knowing the opponent's move in advance.
Conversely, dynamic games have a sequential order, where choices are made based on the opponent's previous moves. Board games, such as chess, belong to dynamic games.
When we are in a game, we can first identify the type of game mechanism we are dealing with. Consider whether it is a single or repeated game, and then decide whether to secure immediate benefits or to aim for larger gains in the future.
How to expand the pie to increase the other party's willingness to cooperate, and develop strategies to enhance the chances of winning.
You might think you're not a business person and find it difficult to understand these principles and practices, but in fact, you encounter them often. Scam groups are a prime example of organizations that apply game theory extensively!
For example, stock scam groups create the illusion of a stag hunt game. Initially, you may be reluctant to invest money, but they invite you into the group, where you can follow the "master" to make small gains, akin to hunting rabbits. Gradually, they entice you to invest more to join the master in hunting deer for bigger profits. They then exploit the mentality from the ultimatum game, making you feel that investing too little is pointless: "This is a one-time opportunity; the shareholders are about to push the stock." Those who fall for the scam, like typical players in the ultimatum game, offer nearly half of their resources, fearing they might miss out on the chance to hunt the deer. Ultimately, they realize this was a large-scale "single game" designed by the scam group.
Understanding game theory is more about recognizing and deconstructing the games set by others, helping you avoid being manipulated or falling into traps. Sometimes, breaking the rules and thinking outside the box—acting unpredictably—can be the key to winning.
