Sri Sharada Institute Of Indian Management - Research

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PROJECT REPORT ON

Game Theory

Submitted To: Prof. Sanjeev Choudhuri

Submitted By:Sayantan Pal Saptarshi Roy

PGDM (2011-12)

DECLARATION

We, Sayantan Pal & Saptarshi Roy student of PGDM (2010-12) hereby declare that we have completed this project on Game Theory. The information submitted is true to the best of our knowledge.

Sayantan Pal Saptarshi Roy (PGDM 2010-12)

ACKNOWLEDGEMENT

Writing is a solitary task. However turning of millions of bytes of information requires an army of talented folks. We have been fortunate enough to be assisted by many talented people. We wish to express our thanks to all those who have helped us and have given valuable suggestions.

We are indeed grateful to our Director Swami (Dr.) Parthasarthy and Prof. Sanjeev Choudhuri for giving us this project as it helped us in enhancing our knowledge and also for providing us the necessary guidance and facility required for completion of this project and for being an effective source of inspiration. We also thank our parents and friends for their support.

CONTENT

Introduction History & impact of Game theory Game theory in Operation Research Definitions of Game Representation of Games Types of Games Conclusion Bibliography

INTRODUCTION

Game theory is the branch of decision theory concerned with interdependent decisions. The problems of interest involve multiple participants, each of whom has individual objectives related to a common system or shared resources. Because game theory arose from the analysis of competitive scenarios, the problems are called games and the participants are called players. But these techniques apply to more than just sport, and are not even limited to competitive situations. In short, game theory deals with any problem in which each players strategy depends on what the other players do. Situations involving interdependent decisions arise frequently, in all walks of life. A few examples in which game theory could come in handy include: Friends choosing where to go have dinner Parents trying to get children to behave Commuters deciding how to go to work Businesses competing in a market Diplomats negotiating a treaty Gamblers betting in a card game All of these situations call for strategic thinking. Making use of available information to devise the best plan to achieve ones objectives. Perhaps you are already familiar with assessing costs and benefits in order to make informed decisions between several options. Game theory simply extends this concept to interdependent decisions, in which the options being evaluated are functions of the players Choices. The appropriate techniques for analyzing interdependent decisions differ significantly from those for individual decisions. To begin with, despite the rubric game, the object is not to .win... Even for strictly competitive games, the goal is simply to identify ones optimal strategy. This may sound like a euphemism, but it

is actually an important distinction. Using this methodology, whether or not we end up ahead of another player will be of no consequence; our only concern will be whether we have used our optimal strategy. The reasons for this will become clear as we continue. In gaming, players. Actions are referred to as moves. The role of analysis is to identify the sequence of moves that you should use. A sequence of moves is called a strategy, so an optimal strategy is a sequence of moves that results in your best outcome. (It doesnt have to be unique; more than one strategy could result in outcomes that had equal payoffs, and they would all be optimal, as long as no other strategy could result in a higher payoff.) There are two fundamental types of games: sequential and simultaneous. In sequential games, the players must alternate moves; in simultaneous games, the players can act at the same time. These types are distinguished because they require different analytical approaches. The sections below present techniques for analyzing sequential and simultaneous games and we conclude with a few words about some advanced game theory concepts.

HISTORY AND IMPACT OF GAME THEORY

The earliest example of a formal game-theoretic analysis is the study of a duopoly by Antoine Cournot in 1838. The mathematician Emile Borel suggested a formal theory of games in 1921, which was furthered by the mathematician John von Neumann in 1928 in a theory of parlor games. Game theory was established as a field in its own right after the 1944 publication of the monumental volume Theory of Games and Economic Behavior by von Neumann and the economist Oskar Morgenstern. This book provided much of the basic terminology and problem setup that is still in use today.

In 1950, John Nash demonstrated that finite games have always had equilibrium Point, at which all players choose actions which are best for them given their opponents choices. This central concept of no cooperative game theory has been a focal point of analysis since then. In the 1950s and 1960s, game theory was broadened theoretically and applied to problems of war and politics. Since the 1970s, it has driven a revolution in economic theory. Additionally, it has found applications in sociology and psychology, and established links with evolution and biology. Game theory received special attention in 1994 with the awarding of the Nobel Prize in economics to Nash, John Harsanyi, and Reinhard Selten. At the end of the 1990s, a high-profile application of game theory has been the design of auctions. Prominent game theorists have been involved in the design of auctions for allocating rights to the use of bands of the electromagnetic spectrum to the mobile telecommunications industry. Most of these auctions were designed with the goal of allocating these resources more efficiently than traditional governmental practices, and additionally raised billions of dollars in the United States and Europe.

GAME THEORY IN OPERATION RESEARCH

Most of operations research deals with problems that are very complex or that in some way are affected by random events. When the problems are deterministic, a large variety of them can be solved, at least conceptually, with the methods discussed in the first part of the book regardless of their complexity. Randomness clouds the definition of optimality and makes the decision process that much more difficult due to our inability to predict outcomes with certainty. The methods of operations research provide the analytic tools that give additional information to the decision maker and in many cases allow optimal decisions to be prescribed. In Chapter 23, we considered decision analysis, a process that leads to policies that are optimal even in the presence of random events. With decision analysis we are

assuming that nature, our opponent, is fair or unbiased. The probability distribution for a random event may be affected by previous events and decisions, but the event is selected by a fair lottery according to the given probability distribution. The decision problems we often involve another individual who may be an antagonistic opponent. We must make decisions knowing that the result will be governed in part by the actions of a competitor. Husbands and wives must deal with each, parents with their children, businesses with their competitors, military commanders with their enemies, and game players with their opponents. The part of operations research that addresses this kind of situation is called game theory. Although clearly applicable to games as the name implies, it is appropriate in a wide variety of contexts in which one must make a decision whose outcome will be determined by the actions of one or more individuals.

DEFINITIONS OF GAMES
The object of study in game theory is the game, which is a formal model of an interactive situation. It typically involves several players; a game with only one player is usually called a decision problem. The formal definition lays out the players, their preferences, their information, and the strategic actions available to them, and how these influence the outcome. Games can be described formally at various levels of detail. A coalitional (or cooperative) game is a high-level description, specifying only what payoffs each potential group, or coalition, can obtain by the cooperation of its members. What is not made explicit is the process by which the coalition forms. As an example, the players may be several parties in parliament. Each party has a different strength, based upon the number of seats occupied by party members. The game describes which coalitions of parties can form a majority, but does not delineate, for example, the negotiation process through which an agreement to vote en bloc is achieved.

Cooperative game theory investigates such coalitional games with respect to the relative amounts of power held by various players, or how a successful coalition should divide its proceeds. This is most naturally applied to situations arising in political science or international relations, where concepts like power are most important. For example, Nash proposed a solution for the division of gains from agreement in a bargaining problem which depends solely on the relative strengths of the two parties bargaining position. The amount of power a side has is determined by the usually inefficient outcome that results when negotiations break down. Nashs model fits within the cooperative framework in that it does not delineate a specific timeline of offers and counteroffers, but rather focuses solely on the outcome of the bargaining process. In contrast, non cooperative game theory is concerned with the analysis of strategic Choices. The paradigm of non cooperative game theory is that the details of the ordering and timing of players choices are crucial to determining the outcome of a game. In contrast to Nashs cooperative model, a non cooperative model of bargaining would post a specific process in which it is pre specified who gets to make an offer at a given time. The term non cooperative means this branch of game theory explicitly models the process of players making choices out of their own interest. Cooperation can, and often does, arise in non cooperative models of games, when players find it in their own best interests. Branches of game theory also differ in their assumptions. A central assumption in Many variants of game theory are that the players are rational. A rational player is one who always chooses an action which gives the outcome he most prefers, given what he expects his opponents to do. The goal of game-theoretic analysis in these branches, then, is to predict how the game will be played by rational players, or, relatedly, to give advice on how best to play the game against opponents who are rational. This rationality assumption can be relaxed, and the resulting models have been more recently applied to the analysis of observed behavior (see Kagel and Roth, eds., Handbook of Experimental Economics, Princeton Univ. Press, 1997). This kind of game theory can be viewed as more descriptive than the prescriptive approach taken here.

This article focuses principally on non cooperative game theory with rational players. In addition to providing an important baseline case in economic theory, this case is designed so that it gives good advice to the decision-maker, even when or perhaps especially when ones opponents also employ it.

REPRESENTATION OF GAMES
The games studied in game theory are well-defined mathematical objects. A game consists of a set of players, a set of moves (or strategies) available to those players, and a specification of payoffs for each combination of strategies. Most cooperative games are presented in the characteristic function form, while the extensive and the normal forms are used to define non cooperative games.

Extensive form:

An extensive form game The extensive form can be used to formalize games with a time sequencing of moves. Games here are played on a trees (as pictured to the left). Here each vertex (or node) represents a point of choice for a player. The player is specified by a number listed by the vertex. The lines out of the vertex represent a possible action for that player. The payoffs are specified at the bottom of the tree. The extensive form can be viewed as a multi-player generalization of decision. (Fudenberg & Tirole 1991, p. 67)

In the game pictured to the left, there are two players. Player 1 moves first and chooses either F or U. Player 2 sees Player 1's move and then chooses A orR. Suppose that Player 1 chooses U and then Player 2 chooses A, then Player 1 gets 8 and Player 2 gets 2. The extensive form can also capture simultaneous-move games and games with imperfect information. To represent it, either a dotted line connects different vertices to represent them as being part of the same information set (i.e., the players do not know at which point they are), or a closed line is drawn around them. (See example in the imperfect information section.)

Normal form:
Player 2 Player 2 The normal (or strategic form) chooses Left chooses Right game is usually represented by a matrix which shows the players, Player 1 4, 3 1, 1 strategies, and payoffs (see the chooses Up example to the right). More 1 generally it can be represented by Player 0, 0 3, 4 any function that associates a chooses Down payoff for each player with every Normal form or payoff matrix of a 2-player, possible combination of actions. 2-strategy game In the accompanying example there are two players; one chooses the row and the other chooses the column. Each player has two strategies, which are specified by the number of rows and the number of columns. The payoffs are provided in the interior. The first number is the payoff received by the row player (Player 1 in our example); the second is the payoff for the column player (Player 2 in our example). Suppose that Player 1 plays up and that Player 2 plays Left. Then Player 1 gets a payoff of 4, and Player 2 gets 3. When a game is presented in normal form, it is presumed that each player acts simultaneously or, at least, without knowing the actions of the other. If players have some information about the choices of other players, the game is usually presented in extensive form.

Every extensive-form game has an equivalent normal-form game, however the transformation to normal form may result in an exponential blowup in the size of the representation, making it computationally impractical. (Leyton-Brown & Shoham 2008, p. 35)

Characteristic function form:

In cooperative games with transferable utility no individual payoffs are given. Instead, the characteristic function determines the payoff of each coalition. The standard assumption is that the empty coalition obtains a payoff of 0. The origin of this form is to be found in the seminal book of von Neumann and Morgenstern who, when studying coalitional normal form games, assumed that when a coalition C forms, it plays against the complementary coalition ( ) as if they were playing a 2-player game. The equilibrium payoff of C is characteristic. Now there are different models to derive coalitional values from normal form games, but not all games in characteristic function form can be derived from normal form games. Formally, a characteristic function form game (also known as a TU-game) is given as a pair (N,v), where N denotes a set of players and is a characteristic function. The characteristic function form has been generalized to games without the assumption of transferable utility.

Partition function form:

The characteristic function form ignores the possible externalities of coalition formation. In the partition function form the payoff of a coalition depends not only on its members, but also on the way the rest of the players are partitioned (Thrall & Lucas 1963).

TYPES OF GAMES
Cooperative or non-cooperative:
A game is cooperative if the players are able to form binding commitments. For instance the legal system requires them to adhere to their promises. In non cooperative games this is not possible. Often it is assumed that communication among players is allowed in cooperative games, but not in non cooperative ones. This classification on two binary criteria has been rejected (Harsanyi 1974). Of the two types of games, non cooperative games are able to model situations to the finest details, producing accurate results. Cooperative games focus on the game at large. Considerable efforts have been made to link the two approaches. The socalled Nash-programme has already established many of the cooperative solutions as non cooperative equilibrium. Hybrid games contain cooperative and non-cooperative elements. For instance, coalitions of players are formed in a cooperative game, but these play in a noncooperative fashion.

Symmetric and asymmetric:

A symmetric game is a game where the payoffs for E F playing a particular strategy depend only on the other 1, 2 0, 0 strategies employed, not on who is playing them. If E the identities of the players can be changed without F 0, 0 1, 2 changing the payoff to the strategies, then a game is symmetric. Many of the commonly studied 22 An asymmetric game games are symmetric. The standard representations of chicken, the prisoner's dilemma, and the stag hunt are all symmetric games.

Some scholars would consider certain asymmetric games as examples of these games as well. However, the most common payoffs for each of these games are symmetric. Most commonly studied asymmetric games are games where there are not identical strategy sets for both players. For instance, the ultimatum game and similarly the dictator game have different strategies for each player. It is possible, however, for a game to have identical strategies for both players, yet be asymmetric. For example, the game pictured to the right is asymmetric despite having identical strategy sets for both players.

Zero-sum and non-zero-sum:

Zero-sum games are a special case of constant-sum A B games, in which choices by players can neither 1, 1 3, 3 increase nor decrease the available resources. In zero- A sum games the total benefit to all players in the game, B 0, 0 2, 2 for every combination of strategies, always adds to zero (more informally, a player benefits only at the A zero-sum game equal expense of others). Poker exemplifies a zerosum game (ignoring the possibility of the house's cut), because one wins exactly the amount one's opponents lose. Other zero-sum games include matching pennies and most classical board games including Go and chess. Many games studied by game theorists (including the famous prisoner's dilemma) are non-zero-sum games, because some outcomes have net results greater or less than zero. Informally, in non-zero-sum games, a gain by one player does not necessarily correspond with a loss by another. Constant-sum games correspond to activities like theft and gambling, but not to the fundamental economic situation in which there are potential gains from trade. It is possible to transform any game into a (possibly asymmetric) zero-sum game by adding an additional dummy player (often called "the board"), whose losses compensate the players' net winnings.

Simultaneous and sequential:

Simultaneous games are games where both players move simultaneously, or if they do not move simultaneously, the later players are unaware of the earlier players' actions (making them effectively simultaneous). Sequential game (or dynamic games) are games where later players have some knowledge about earlier actions. This need not be perfect information about every action of earlier players; it might be very little knowledge. For instance, a player may know that an earlier player did not perform one particular action, while he does not know which of the other available actions the first player actually performed. The difference between simultaneous and sequential games is captured in the different representations discussed above. Often, normal form is used to represent simultaneous games, and extensive form is used to represent sequential ones. The transformation of extensive to normal form is one way, meaning that multiple extensive form games correspond to the same normal form. Consequently, notions of equilibrium for simultaneous games are insufficient for reasoning about sequential games; see sub game perfection.

Perfect information and imperfect information:

A game of imperfect information (the dotted line represents ignorance on the part of player 2, formally called an information set)

An important subset of sequential games consists of games of perfect information. A game is one of perfect information if all players know the moves previously made by all other players. Thus, only sequential games can be games of perfect information, since in simultaneous games not every player knows the actions of the others. Most games studied in game theory are imperfect-information games, although there are some interesting examples of perfect-information games, including the ultimatum game and centipede game. Recreational games of perfect information games include chess, go, and mancala. Many card games are games of imperfect information, for instance poker or contract bridge. Perfect information is often confused with complete information, which is a similar concept. Complete information requires that every player know the strategies and payoffs of the other players but not necessarily the actions. Games of incomplete information can be reduced however to games of imperfect information by introducing "moves by nature".

Combinatorial games:
Games in which the difficulty of finding an optimal strategy stems from the multiplicity of possible moves are called combinatorial games. Examples include chess and go. Games that involve imperfect or incomplete information may also have a strong combinatorial character, for instance backgammon. There is no unified theory addressing combinatorial elements in games. There are however mathematical tools that can solve particular problems and answer some general questions. Games of perfect information have been studied in combinatorial game theory, which has developed novel representations, e.g. surreal numbers, as well as combinatorial and algebraic (and sometimes non-constructive) proof methods to solve games of certain types, including some "loopy" games that may result in infinitely long sequences of moves. These methods address games with higher combinatorial complexity than those usually considered in traditional (or "economic") game theory. A typical game that has been solved this way is hex. A related field of study, drawing from computational complexity theory is game

complexity, which is concerned with the estimating the computational difficulty of finding optimal strategies. Research in artificial intelligence has addressed both perfect and imperfect (or incomplete) information games that have very complex combinatorial structure (like chess, go, or backgammon) for which no provable optimal strategies have been found. The practical solutions involve computational heuristics, like alphabeta pruning or use of artificial neural networks trained by reinforcement learning, which make games more tractable in computing practice.

Infinitely long games:

Games, as studied by economists and real-world game players, are generally finished in finitely many moves. Pure mathematicians are not so constrained, and set theorists in particular study games that last for infinitely many moves, with the winner (or other payoff) not known until after all those moves are completed. The focus of attention is usually not so much on what is the best way to play such a game, but simply on whether one or the other player has a winning strategy. (It can be proven, using the axiom of choice, that there are gameseven with perfect information, and where the only outcomes are "win" or "lose"for which neither player has a winning strategy.) The existence of such strategies, for cleverly designed games, has important consequences in descriptive set theory.

Discrete and continuous games:

Much of game theory is concerned with finite, discrete games that have a finite number of players, moves, events, outcomes, etc. Many concepts can be extended, however. Continuous games allow players to choose a strategy from a continuous strategy set. For instance, Carnot is typically modeled with players' strategies being any non-negative quantities, including fractional quantities. Differential games such as the continuous pursuit and evasion game are continuous games.

Many-player and population games:

Games with an arbitrary, but finite number of players are often called n-person games (Luce & Raiffa 1957). Evolutionary game theory considers games involving a population of decision makers, where the frequency with which a particular decision is made can change over time in response to the decisions made by all individuals in the population. In biology, this is intended to model (biological)evolution, where genetically programmed organisms pass along some of their strategy programming to their offspring. In economics, the same theory is intended to capture population changes because people play the game many times within their lifetime, and consciously (and perhaps rationally) switch strategies. (Webb 2007)

Stochastic outcomes (and relation to other fields):

Individual decision problems with stochastic outcomes are sometimes considered "one-player games". These situations are not considered game theoretical by some authors. They may be modeled using similar tools within the related disciplines of decision theory, operations research, and areas of artificial intelligence, particularly AI planning (with uncertainty) and multi-agent system. Although these fields may have different motivators, the mathematics involved is substantially the same, e.g. using Markov decision processes (MDP). Stochastic outcomes can also be modeled in terms of game theory by adding a randomly acting player who makes "chance moves", also known as "moves by nature" (Osborne & Rubinstein 1994). This player is not typically considered a third player in what is otherwise a two-player game, but merely serves to provide a roll of the dice where required by the game. For some problems, different approaches to modeling stochastic outcomes may lead to different solutions. For example, the difference in approach between MDPs

and the minimax solution is that the latter considers the worst-case over a set of adversarial moves, rather than reasoning in expectation about these moves given a fixed probability distribution. The minimax approach may be advantageous where stochastic models of uncertainty are not available, but may also be overestimating extremely unlikely (but costly) events, dramatically swaying the strategy in such scenarios if it is assumed that an adversary can force such an event to happen. (See black swan theory for more discussion on this kind of modeling issue, particularly as it relates to predicting and limiting losses in investment banking.) General models that include all elements of stochastic outcomes, adversaries, and partial or noisy observe ability (of moves by other players) have also been studied. The "gold standard" is considered to be partially observable stochastic game (POSG), but few realistic problems are computationally feasible in POSG representation.

Metagames:
These are games the play of which is the development of the rules for another game, the target or subject game. Metagames seek to maximize the utility value of the rule set developed. The theory of metagames is related to mechanism design theory. The term metagame analysis is also used to refer to a practical approach developed by Nigel Howard (Howard 1971) whereby a situation is framed as a strategic game in which stakeholders try to realize their objectives by means of the options available to them. Subsequent developments have led to the formulation of drama theory.

CONCLUSION
Game theory is exciting because although the principles are simple, the applications are far-reaching. Interdependent decisions are everywhere, potentially including almost any endeavor in which self-interested agents cooperate and/or compete. Probably the most interesting games involve communication, because so many layers of strategy are possible. Game theory can be used to design credible commitments, threats, or promises, or to assess propositions and statements offered by others. Advanced concepts, such as brinkmanship and inflicting costs, can even be found at the heart of foreign policy and nuclear weapons strategies. Some the most important decisions people make.

BIBLIOGRAPHY
www.gametheory.net www.cdam.lse.ac.uk www.gametheorysociety.org www.economics.harvard.edu www.worldscinet.com www.math.ucla.edu www.investopedia.com www.gametheorystore.com www.gtguild.net www.iep.utm.edu