Lecture 23 - Game Theory & Strategy - 1

Lecture 23 - Game Theory & Strategy - 1 - FIN501...

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1 FIN 501 Financial Economics Lecture 23: Game Theory and Strategy I Professor Nolan Miller
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2 Announcements Problem Set #6 is due on Tuesday, Nov. 16, 2010. Final exam is schedules for Wednesday, Dec. 15. NM OH this week: Wednesday, 1 – 3.
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3 Guess How Many Coins? Consider the container of coins. How much do you think it is worth? The coins will go to the highest bidder  for the amount they bid. Write down: How much money do you think is in the jar? How much would you bid?  (the jar will go to the highest bidder for the amount they bid)
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4 Game Theory & Strategy Additional Reference: Dixit and Nalebuff,  Thinking Strategically , Norton, 1993. On reserve. Cheap and interesting read if you want t buy  one ($12.89 or less on amazon.com). As usual, lectures are self-contained.
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5 Decision Problems  vs. Strategic Problems  In a Decision Problem, the decision maker tries to do the best possible,  given the environment. But, the environment does not “fight back.” Perfect competition: Price taking assumption implies that individuals do  not think their actions will affect prices, and also that they don’t think  others’ actions will affect prices. Monopoly: Buyers are price takers.  Although the seller is a “large”  player, other players are not small enough to influence its behavior.  So, there is no “strategic interaction” between the players.
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6 Decision Problem: Example Everyone in the room guesses a number between 1 and 100. A computer will randomly choose a number between 1 and 100. You win a prize if your guess is within 10 of the number the computer  chose.
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7 Decision Problem: Example Here, some guesses are better than others. Don’t guess above 90 or below 10. But, if you believe the number is chosen at random, your decision does  not depend on anyone else’s guess. This is a  decision problem , not a  strategic problem.
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8 Strategic Problems In  strategic problems , your decisions depend on what you think others  are going to do. Exercise:   Each person in the room should pick a number between 1 and 100.  Whoever guesses closest to 2/3 of the average of all guesses wins  $10. Which number do you choose?
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9 Strategic Problems The number you should guess depends on what you think others will do. First-order reasoning: The highest possible average is 100.   So, don’t guess greater than 2/3 * 100 = 66.
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This note was uploaded on 06/05/2011 for the course FIN 580 taught by Professor Staff during the Spring '08 term at University of Illinois, Urbana Champaign.

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Lecture 23 - Game Theory & Strategy - 1 - FIN501...

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