I. Strategic behavior:
A. Bilateral monopoly.
1. Economic example: I have the only apple, worth $1 to me. You are the
only customer, and value it at $2. If we can agree on a price, there is a net
gain of $1 to be divided between us, with the division implied by the price.
2. My six-year-old threatens to throw a tantrum if she doesn't get her way.
Doing so imposes net costs, so there is a gain to finding some mutually
acceptable outcome. Don't assume you can simply be firm and always
win. You may have thought out the logic of bilateral monopoly bargaining
better than she has, but she has a hundred million years of evolution on her
side--during which offspring who succeeded in getting a larger share of
parental resources were more likely to survive to reproduce.
3. Doomsday machine.
a. The idea. Lots of very dirty bombs buried under the Rockies. If
the Russians attack, the bombs go off and the fallout kills everyone
on earth. So the Russians won't attack, and we don't need bombers
b. The reality: Our (and their) nuclear systems were doomsday
machines, with human triggers. They worked, and therefore were
4. Bully: If you train yourself to punch out anyone who gets in your way,
and people know it, they will stay out of your way, and you don't have to
fulfill the commitment--until you run into someone else following the
same strategy, and one of you ends up dead. A doomsday machine on the
5. In general, the outcome of such games depends largely on issues of
commitment and reputation, which are hard to include in our analysis.
B. Prisoner's Dilemma
1. Simple: Both prisoners are better off if both keep their mouths shut, but
given what one does, the other is always better off confessing. So they
2. Iterated. If we play the game multiple times, you might think that a
prisoner would keep his mouth shut one time, for fear his partner would
betray him next time in revenge.
3. Why it doesn't work:
a. On the last play, no further threats of retaliation remain, so we
are back with the original game--and both players betray.
b. But since I know you are going to betray me on the last play,
there is no cost to me to betraying you on the play before last.
c. Repeat. The whole series of plays unravels, and we both betray
d. It seems intuitively wrong, but logically right.
4. Why it does work: