Saturday Serendipity
Quote,Mental Model, Interesting Find.
Hi there! Today is a long one.
Reading Time: About 5 minutes
Quote
“Consider how hard it is to change yourself and you'll understand what little chance you have in trying to change others” ~ Peter Bevelin All I want to know is where i’m going to die so i’ll never go there
Mental Model
Game theory
Have you ever been a situation where you have to reach a place to meet some people at let’s say 8:00pm but you purposely go 5-10 minutes late because you know they are going to be late?
I have.
Now this does sound smart. Everyone is most likely going to turn up at 8:10-8:15 anyways why should I bother coming at 8:00.
But let’s consider the possibility that everyone is on time. Now because of your misjudgement your friends have to wait for you. In this case what has happened is you acted with your best interest in mind and it didn’t turn out to be the best decision for the group.
Now there are situations when everyone would come by 8:15 and there are also situations where they don’t come till 8:30. But for the point I am trying to make let’s stick with the explanation we have.
“Game theory deals with what happens when individuals or groups of people interact with one another to achieve their goals. Unless you really understand game theory, you can’t begin to actually understand human behaviour” - Safal Niveshak
Here is a great example from Peter Bevelin’s Seeking Wisdom:
“Suppose you and a partner commit burglary. Both of you are picked up by the police who then question you one by one. There is not enough evidence to convict you unless one of you confesses. The interrogator gives you a choice to cooperate or not.
If you both deny the crime, there is still enough evidence to put you both in jail for 1 year.
If you both confess, you both go to jail for 3 years.
If you confess but your partner denies, you will be free and your partner will go to jail for 10 years.
If you deny but your partner confesses, you will go to jail for 10 years.
What should you do? The consequences for you depend on what your partner does. From an outsider’s perspective, it seems that both of you would be better off denying the crime (1 year). But from your point of view, it seems best to confess (freedom). The problem is that you don’t know what your partner will do. If your partner betrays you, it is better that you also betray him and get 3 years in prison, instead of the 10 years you get if you deny, but your partner ends up confessing. If on the other hand your partner denies, it is still better that you confess because this way you will be free, instead of the 1 year you get if you deny.
Since both you and your partner follow this “logic” and confess, you will both go to jail for 3 years. Doing what you believe is in your best interest leads to a worse outcome than if you cooperate and deny. But here is the dilemma. You don’t know if you can trust your partner. Cooperation only works if you and your partner can trust each other.”
A similar situation occurs in office interviews, team building exercises etc.
In Business
Consider Lays and Bingo. Both have them have their chips priced at 10rs and they both taste similar. The main aim for both of these companies is to reduce their costs by achieving economies of scale. But let’s say Lays decides to reduce it’s price to 5rs. Now they will gain market share because the taste factor is not so distinct. Bingo has two options. One is to let Lays reduce the price and eat away Bingo’s market share. Or it can join in and price it at 5 and gain back it’s market share and compromise profits. Now both the companies are back at where they were before only difference is instead of the price being 10 it is 5. But in a situation like this since it is an Oligopoly the other company has to follow the price drop. Otherwise it will lose market share.
In a concept related to investing Buffett wrote about the textile industries in his 1986 shareholder letter,
“Over the years, we had the option of making large capital expenditures in the textile operation that would have allowed us to somewhat reduce variable costs. Each proposal to do so looked like an immediate winner. Measured by standard return-on-investment tests, in fact, these proposals usually promised greater economic benefits than would have resulted from comparable expenditures in our highly-profitable candy and newspaper businesses.
But the promised benefits from these textile investments were illusory. Many of our competitors, both domestic and foreign, were stepping up to the same kind of expenditures and, once enough companies did so, their reduced costs became the baseline for reduced prices industry-wide. Viewed individually, each company’s capital investment decision appeared cost-effective and rational; viewed collectively, the decisions neutralized each other and were irrational (just as happens when each person watching a parade decides he can see a little better if he stands on tiptoes). After each round of investment, all the players had more money in the game and returns remained anemic.”
Conclusion
A concept of economics which helps us understand human behaviour can be one part of the explanation to many things that are going on. The arms race, the space race, the innovation adoption ,etc. These all have a little bit to do with game theory. The famous game Split or Steal can also be understood well by game theory.
Interesting Find
That’s it for this week!
Enjoy the weekend!
Nice one