Manager's Journal - Making Game Theory Wok in Practice - WSJ Feb 13 1995

Manager's Journal - Making Game Theory Wok in Practice - WSJ Feb 13 1995

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Databases selected: Multiple databases. .. Full Text (1041 words) Manager's journal: Making game theory work in practice Barnett, F William . Wall Street Journal . (Eastern edition). New York, N.Y.: Feb 13, 1995. pg. A14 Abstract (Summary) F. William Barnett comments on how game theory can be beneficial to managers. Game theory is hot. Its champions won the 1994 Nobel Prize in economics and it's been used to analyze everything from the baseball strike to auctions at the Federal Communication Commission. Why? More specifically, why are 50-year-old ideas now being used by companies to answer basic questions about pricing, investments in capacity, purchasing, and other matters? One of the reasons game theory has finally been discovered by managers is the rapidity with which companies can now respond to changes in products, technologies and prices. Game theory helps you pay attention to your interactions with competitors, customers and suppliers, and to focus on the end-game so that your near-term actions promote your long-term interest by influencing what these "players" do. The theory itself is reasonably straightforward to use. Say you have two competitors, Ace and Smith. Ace expects Smith to enter the market and is trying to understand Smith's likely pricing strategy. To do so, Ace uses something called a "payoff matrix" (See chart "The Pricing Game" -- WSJ Feb. 13, 1995). Each quadrant in the matrix contains the "payoffs" -- or financial impact -- to each player for each possible strategy. If both players maintain prices at current levels, they will both be better off: Ace will earn $100 million and Smith will earn $60 million (Quadrant A). Unfortunately for both Ace and Smith, however, they have perverse incentives to cut prices. Ace calculates that if he maintains prices, Smith will cut prices to increase earnings to $70 million from $60 million.
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Manager's Journal - Making Game Theory Wok in Practice - WSJ Feb 13 1995

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