Economics Game Theory In Behavioral Economics Questions Medium
Backward induction is a strategic decision-making process used in game theory to determine the optimal strategy for each player in a sequential game. It involves reasoning backward from the end of the game to the beginning, considering the possible actions and outcomes at each stage.
In a sequential game, players take turns making decisions, and the outcome of each player's decision depends on the decisions made by the previous players. Backward induction helps to identify the subgame perfect Nash equilibrium, which is the set of strategies that maximizes each player's payoff at every stage of the game.
To apply backward induction, we start by analyzing the final stage of the game and determine the optimal strategy for the last player. Then, we move backward to the previous stage and consider the optimal strategy for the second-to-last player, taking into account the strategy chosen by the last player. This process continues until we reach the first stage of the game, where we determine the optimal strategy for the first player.
By reasoning backward, we can eliminate strategies that are not rational for any player to choose, as they would lead to suboptimal outcomes. Backward induction helps to identify the equilibrium strategies that players will choose, considering the rationality of all players involved.
Overall, backward induction is a powerful tool in game theory as it allows us to analyze sequential games and determine the optimal strategies for each player, leading to a more accurate understanding of strategic decision-making in various economic and social contexts.