The Economics Book

236

C

onsidering how another

person might react when

you do something involves

making strategic calculations.

Successfully negotiating your

way through social and economic

interactions is a bit like a game of

chess, where players must choose

a move on the basis of what the

other player’s countermove might

be. Up to the 1940s economics

had largely avoided this issue.

Economists assumed that every

buyer and seller in the market was

very small compared to the total

size of the market so nobody had

GAME THEORY

Our everyday interactions involve

strategic decisions that are similar to

a game of chess, where players choose

their moves on the basis of how they

think their opponent will respond.

IN CONTEXT

FOCUS

Decision making

KEY THINKER

John Nash (1928– )

BEFORE

1928 US mathematician John

von Neumann formulates the

“minimax rule” that says the

best strategy is to minimize

the maximum loss on any turn.

AFTER

1960 US economist Thomas

Schelling publishes The

Strategy of Conflict, which

develops strategies in the

context of the Cold War.

1965 German economist

Reinhard Selten analyzes

games with many rounds.

1967 US economist John

Harsanyi shows how games

can be analyzed even if there

is uncertainty about what

sort of opponent you are

playing against.

any choice about the price they

paid for a good or the wage they

sold their labor for. Individual

choices had no effects on others,

it was reasoned, so they could

safely be ignored. But as early

as 1838, French economist

Antoine Augustin Cournot (p.91)

had looked at how much two firms

would produce on the basis of

What does the

other man

think I am

going to do?

Cooperate with him

because we can agree on an

option that benefits us both.

Compete with him

because we make our

decisions independently.

If he thinks I will cooperate,

I can safely cooperate.

If he thinks I will compete,

I had better compete.