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Theory on how people behave when
interacting with others, whilst trying to
maximise personal welfare
Analysis of how people try to use their
knowledge of what they think others will do
in order to maximise their own welfare.
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Economists try to predict how firms will react
in various scenarios
Firms need to predict how other firms will
behave when making their own decisions
Most relevant in Oligopoly - few enough
firms for individual players to attempt to
predict others’ decisions
Explains why firms collude to maximise
welfare or why they may cheat on collusive
agreements
Sally
Deny
Confess
Deny
A: Each gets 1 B: Jane gets 10
year
years; Sally gets
6 months
Confess
C: Sally gets
10 years;
Jane gets 6
months
Jane
D: Both get 3
years
Firm X
£2
£2
A: Each gets
£10m
£1.80
B:
Firm Y gets £5;
Firm Y
Firm X gets £12
£1.80 C:
D:
Firm Y gets £12; Both firms get
Firm X gets £5
£8m
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A: Collude
B & C: ‘Maximax’ – each firm attempts to go
for the best for themselves, hoping the other
does not
D: ‘Maximin’ – both firms go for the failsafe
option to minimise reducing the risk of
ending up on the wrong side of the other
*All of B, C, and D end up at D*
Only collusion will achieve A
Firm X
Firm
Y
Update
image
Price
promotions
Update
image
A:
Firm Y: £5M
Firm X: £5M
B:
Firm Y: £3M
Firm X: £3M
Price
promos
C:
Firm Y: £2M
Firm X: £1M
D:
Firm Y: - £1
Firm X: - £1
Where a single
strategy is best for
one player,
irrespective of what
strategy the other
player adopts.
Here, Y is better off
updating their image,
regardless of the
choice made by X.
‘Update image’ is Y’s
dominant strategy.
• Where no player has anything to gain by
changing only his or her own strategy.
• If each player has chosen a strategy and
no player can benefit by changing his or
her strategy while the other players
keep theirs unchanged, then the current
set of choices and the corresponding
payoffs constitute a Nash equilibrium.
January 2013
 (c) With reference to an industry of your choice,
examine strategies firms might use to increase
consumer loyalty. Use game theory to support your
answer. (12)
June 2013
 (d) Assess reasons why supermarkets are not
increasing the retail price of eggs to cover the
increased production costs of egg farmers. Use
game theory to support your answer. (16)