Power Point Set 9c: Game Theory and Strategy

Game Theory and Strategy

Key Concept: Preemption of Strategically Valuable Assets

Access to raw materials (e.g., Alcoa)

Wal-mart’s rural strategy

Analyzing Competitive Dynamics Commitment Vs. Flexibility

Commitment

Game-theoretic preemption strategy

Flexibility

Real (Strategic) Options Analysis

3

Game Theory and Strategy

Invisible-Hand Game

Ro

w

Wo

rk H

ard

Work Hard Shirk

Column

170

140170

140

130 120

120

130

Game Theory and Strategy

Assurance Game

Ro

w Co

op

era

te

Cooperate Defect

Column

170

120170

120

100 110

110

100

Game Theory and Strategy

Prisoners’ Dilemma Game

Ro

w Sil

en

ce

Silence Fink

Column

-1

0-1

0

-10 -8

-8

-10

Game Theory and Strategy

Prisoners’ Dilemma Game

Row Player: Dominant Strategy: Fink

Column Player: Dominant Strategy: Fink

Dominant Strategy (Nash) Equilibrium: (-8, -8)

Note: It is a dilemma since if they both cooperated by remaining silent: (-1, -1).

-1

0-1

0

-10 -8

-8

-10

Game Theory and Strategy

The Prisoners’ Dilemma Game can occur in many contexts:

What is best for an individual may not be best for a division;

What is best for a division may not be best for a firm;

What is best for a firm many not be best for an industry;

What is best for an industry may not be best for a nation; and

What is best for a nation may not be best for the world.

Game Theory and Strategy

Now that we have learned the concept of dominant

strategy equilibrium, there is a second important

equilibrium concept called a Nash equilibrium.

Note: All dominant strategy equilibrium are

Nash equilibrium, but not all Nash equilibrium

are dominant strategy equilibrium.

Game Theory and Strategy

Game with no dominant strategy equilibrium, but a Game

with one Nash equilibrium:R

ow Co

op

era

teCooperate Fink

Column

5

41

9

-1 0

0

4

Game Theory and Strategy

A cooperative game with conflict

Game with multiple (two) Nash equilibria

Man P

rize F

igh

t

Prize Fight Ballet

Woman

2

-11

-5

-5 2

1

-1

Game Theory and Strategy

Suppose this game were played sequentially?

Would it be better to go first or second?

Man P

rize F

igh

t

Prize Fight Ballet

Woman

2

-11

-5

-5 2

1

-1

Game Theory and Strategy

Would you want to move first or second?

Man P

rize F

igh

t

Prize Fight Ballet

Woman

10

10020

4

90 30

8

6

Game Theory and Strategy

Initial Game (played simultaneously)

Air

bu

s

No

Lau

nch

No Launch Launch

Boeing

400

400300

300

200 -100

-200

200

How Can “Commitment” Affect A Competitor’s Response?

Commitment = An Irreversible Action (Sunk Costs)

Competition In The Commercial Aircraft Industry

Air

bu

s

No

Lau

nch

No Launch Launch

Boeing

400

400300

300

200 -100

-200

200

Game Theory and Strategy:

Lessons #1

1. Commitment (sunk costs) can be

used to achieve competitive advantage.

• Preemption strategy

• Note: It is important to communicate

the commitment to competitors.

Game Theory and Strategy

Joint Venture

GM C

oo

pera

te

Cooperate L. Race

Toyota

112

123112

123

58 91

91

58

How Can “Commitment” Affect A Competitor’s Response?

Commitment = An Irreversible Action (Sunk Costs)

GM C

oo

pera

te

Cooperate L. Race

Toyota

112

123112

-28

58 91

-51

58

How Can “Commitment” Affect A Competitor’s Response?

Mutual sunk cost commitments

GM Cooperate

Cooperate L. Race

Toyota

112

-28112

-28

58 -51

-51

58

Game Theory and Strategy

Lessons #2:

2. Commitment (sunk costs) can be used to achieve cooperation.

The importance of mutual economic hostages: The wise manager should think beyond Machiavelli’s myopic approach to contracting and should seek both to give and receive credible (sunk cost) commitments that facilitate ongoing relationships and adaptation.

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