INDIVIDUAL REPORT

Component 2: Individual Report



Component 2: Individual Report

Introduction

Game theory is a technique that uses logical deduction to explore the consequences of various strategies that might be adopted by competing game players. Game theory can be used in economics to represent the problems involved in formulating marketing strategy by small numbers of interdependent competitors. Although game theory can and has been used to analyze its implication in the business context, its applications are much broader (Osborne, 2004). Game theory has been applied to a wide variety of situations in which the choices of players interact to affect the outcome. In stressing the strategic aspects of decision making, or aspects controlled by the players rather than by pure chance, the theory both supplements and goes beyond the classical theory of probability (Fudenberg & Tirole, 2001). This paper presents an analysis of the limitations of using the literature of game theory, for the purpose of explaining the impact of uncertain or risky aspects of the economic environment on decisions taken about finance.

Game Theory Implications in the Business Decisions

Game theory and strategic interaction are related perspectives used by some economist to predict the behaviour of rational actors. Both game theory and strategic interaction use the rational choice perspective, which assumes that actors seek to maximize outcomes based on rational thought processes (Straffin, 2003). Game theory is a theory of action based on systems of interdependency and reward structures. Actors are assumed to act intentionally, and actions are dependent on the actions and perceived reactions of other actors. Game theory assumes interactions between at least two actors, whether individuals or organizations. This perspective is most used in business environment applications (Anderson, 2006).

Although game theory entered economics with great fanfare in the 1940s, as late as the 1970s the approach was being applied in only a few areas of the discipline. Dramatic advances occurred in the 1980s, however, and game theory has certain limitation to become one of the standard tools of mainstream microeconomics (Bruce & Hsu, 2009). Many economists interested in economics and financing structure have found game theory appealing, but with considerable limitations of risk and decision effectiveness under uncertainty (Aumann & Hart, 2004). Indeed, exploration of the potential of game-theoretic frameworks for analysis of economic and finance related decision is today one of the most intriguing frontiers in business economics theory.

Game theory applies to situations in which 'individuals have some understanding of how the outcome for one is affected not only by his or her own actions but also by the actions of others' entities in the business (Hutton, 2008). It has been used to analyse a wide variety of economic and political phenomena, including corporate financial strategy, the price and output decisions of oligopolistic firms, wage bargaining between unions and employers, the conduct of monetary policy, and the decision to pursue collective action (Chinchuluun, 2008).

Some mathematicians and economists believed that game theory could be developed further, and equilibrium solutions reached for many ...