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Instructions
Incorporate the concepts of game theory to international trade and tariffs. Set up two payoff matrices. Set up the first payoff matrix such that the outcome will be harmful to both countries. Set up the second payoff matrix such that the outcome will be beneficial to the United States. From your perspective as a consumer, evaluate the two matrices using current actions by each country to see which most likely benefits domestic consumers.
Your journal entry must be at least 200 words in length. No references or citations are necessary.
A little on game theory:
Game Theory
Game theory is applied to decision-making where one party’s actions affect another party’s outcome. Game
theory is not applicable to perfectly competitive markets because individual producers cannot affect the
market outcome. Game theory is not applicable to monopoly because there is only one producer in a
monopoly. Game theory is applicable to oligopolies where there are a handful of producers; so what one
producer does affects the other producers.
If Coke, for example, comes out with a new product, that new product will likely affect Pepsi and Dr Pepper. If
Coke changes their price or embarks on a new marketing campaign, Pepsi and Dr Pepper will likely be
affected. Pepsi and Dr Pepper, thus, need to decide how they will respond to Coke’s actions. Coke will also
need to anticipate Pepsi and Dr Pepper’s response when deciding the action they take (you can think of it like
the Battle of Wits from The Princess Bride). The optimal strategy for a “game” is determined by evaluating
likely strategies by opponents and expected outcomes. Optimal strategies can also be affected by the
MBA 6053, Economics for Managers 3
UNIT x STUDY GUIDE
Title
structure of a game. Some games are sequential, where one player makes a decision and then the other
player makes a decision in response to the first player’s decision. Other games are simultaneous where
players make their decision at the same time. Ultimately, the outcome of a game is driven by the likely
outcomes.
Game theory can also be applied to bargaining situations, for example, when bargaining over trade
agreements. Trade agreements are often termed “free trade agreements,” but that is a bit of a misnomer.
Certainly, most trade agreements eliminate tariffs, but if that is all that was involved, the agreement could be
written on a cocktail napkin. Instead, trade agreements often include restrictions or allowances for subsidies,
requirement wages, environmental rules, and rules of origin (rules of origin are requirements on the countries
where intermediate goods in the production process were produced). All of these requirements can move the
agreement away from free trade.
This is where game theory and bargaining can play a role. Consider trade between the United States and
China. China places considerable trade restrictions on imports from the United States, and the United States
has historically not put many on imports from China. Now, per trade theory, this is still beneficial to the United
States. That is, the United States still benefits from getting goods produced at a lower cost than companies in
the United States could produce them. The United States would benefit even more, however, if China did not
have trade restrictions. China, however, feels they benefit from their trade restrictions (standard economic
theory would say they do not).
So how does the United States get China to reduce their trade restrictions?
One possible approach is to employ trade restrictions against Chinese products. This can be thought of as a
game of chicken, except where the costs are steeper for China than for the United States. The risk, of course,
for the United States, is that the costs are actually steeper for the United States.
There are other factors that can matter for a negotiation as well. You might be familiar with the phrase,
“Whoever gives a number first, loses.” That would suggest that being a first mover could put a bargainer at a
disadvantage. This is because moving first reveals information to your opponent that they can use to decide
the action. Credibility to commit to a position matters too. In a repeated game, if one party cannot credibly
stick to their position through multiple iterations of a game, then the other party can benefit by simply waiting
out the other party. In the case of the United States and China, the frequency of elections can be a handicap.
The Chinese government will likely be in power for the foreseeable future, while any given United States
administration only has certainty of four years at a time to be in power. Fortunately, you can see a lot of these
concepts play out in the real world by paying attention to the news
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