key term - Subgame perfection

Definition

Subgame perfection is a refinement of Nash equilibrium used in dynamic games, ensuring that players' strategies constitute a Nash equilibrium in every subgame of the original game. This concept emphasizes that players will not just play optimally at the start, but will also respond optimally to all possible future decisions, leading to credible threats and promises. It highlights the importance of strategies that remain optimal even when considering different points in the game.

5 Must Know Facts For Your Next Test

1. Subgame perfection is crucial in dynamic games where players make decisions at various stages, as it ensures rational play throughout all stages.
2. In repeated games, subgame perfect equilibria can sustain cooperation through credible threats and rewards.
3. Backward induction is often used to identify subgame perfect equilibria by determining the optimal actions starting from the last move and moving backwards.
4. The concept helps to eliminate non-credible threats that could arise in a Nash equilibrium, where players may deviate from their strategies.
5. In extensive form games, identifying subgame perfect equilibria involves checking if players’ strategies are optimal at every decision node.

Review Questions

• How does subgame perfection enhance our understanding of player behavior in dynamic games?
  • Subgame perfection provides a more detailed understanding of player behavior by ensuring that strategies remain optimal not only at the outset but also in response to future moves. This concept highlights that players will consider how their actions affect future interactions and can lead to more credible strategies, as they anticipate opponents' reactions throughout the game's progression. This leads to a more realistic prediction of how players will act when faced with different scenarios.
• Discuss how backward induction relates to finding subgame perfect equilibria and provide an example illustrating this relationship.
  • Backward induction is a critical technique used to identify subgame perfect equilibria by analyzing decisions from the end of a game moving backwards. For example, consider a two-stage game where Player A chooses an action that affects Player B's options in the second stage. By examining what Player B would do after observing A's action, we can determine what A should do initially to ensure their strategy is optimal for both stages. This method guarantees that decisions are made with full consideration of subsequent outcomes, ensuring rational play throughout.
• Evaluate the impact of subgame perfection on cooperative strategies in repeated games and how it shapes long-term relationships between players.
  • Subgame perfection significantly impacts cooperative strategies in repeated games by allowing players to use credible threats or promises to enforce cooperation. For instance, if players can communicate and agree on future punishments for defection, they can sustain cooperation as long as these threats remain credible throughout the game's course. This creates a framework where long-term relationships are shaped by past interactions, encouraging players to act in ways that foster trust and collaboration over time while maintaining optimal responses based on earlier moves.

Related terms

Nash equilibrium: A situation in a game where no player can benefit by changing their strategy while other players keep theirs unchanged.

Backward induction: A method used to solve dynamic games by analyzing the game from the end backward to determine optimal strategies.

Extensive form game: A representation of a game that shows the sequential moves of players, including the timing and choices at each decision point.