1.

Consider the following 2x2 simultaneous-move game:

Left Right
Up 6, 7 x, 5
Down 5, 3 1, 8

(a) For what values of x does Up strictly dominate Down for player 1? For what
values of x does Up weakly dominate Down for player 1?

Up gives a higher payoff than Down when player 2 plays Left, so Up

strictly dominates Down if it also gives a higher payoff in response to
Right, so Up strictly dominates Down if x > 1.

By similar reasoning to (a), Up weakly dominates Down if player 1

weakly prefers Up to Down in response to Right so Up weakly
dominates Down if x 1.

(b) How many pure strategy Nash equilibria are there if Up strictly dominates
Down? How many pure strategy Nash equilibria are there if Up weakly dominates
Down? Explain your answers.

Iterated dominance yields a unique solution (Up, Left), which is the

unique Nash equilibrium of the game when Up strictly dominates Down.
That is, there is a single pure strategy Nash equilibrium when Up strictly
dominates Down.

However, if x = 1, then Up weakly dominates Down and there are two

pure strategy Nash equilibria: (Up, Left) and (Down, Right).

(c) Explain why there cannot be an equilibrium where both players use mixed strategies
(i.e. put positive probability on each pure strategy) if Up strictly dominates Down or
Up weakly dominates Down.

If player 1 has a strictly or weakly dominant strategy, then this will be player
1s best response to any mixed strategy by player 2.

(d) Now suppose that the conditions in (a) and (b) fail so that Up does not strictly
dominate or weakly dominate Down. How many pure strategy Nash equilibria are
there in the game? How many mixed strategy Nash equilibria are there in this game?
Explain your answer.

If x < 1 then player 1 does not have a strictly dominant or weakly dominant
pure strategy. Then, there are still two pure strategy equilibria: (Up,
Left) and (Down, Right). In addition, there will be a single mixed
strategy equilibrium, since the best response functions for the two players
must cross somewhere between these two pure strategy equilibria.
(e) Suppose that player 2 moves first, and that player 1 observes player 2s choice and
moves second in a sequential game with the same payoffs for each combination of moves
as in the table above. Which of the pure strategy Nash equilibria from (b) and (d) are
subgame perfect equilibria of the sequential-move game?

If x > 1, then Up strictly dominates Down and player 1 will play Up in

response to any move by player 2. Then the unique SPE outcome is (Up,
Left), which gives player 2 the highest payoff in response to Up by
player 1.

If x < 1, then player 1 will play Up if player 2 plays Left and Down if
player 2 plays Right. Player 2 gets a payoff of 7 from (Up, Left) and 8
from (Down, Right), so will choose Right. The unique SPE outcome is
(Down, Right).

If x = 1, then player 1 could play either strategy in response to Right. If

player 1s strategy is (Up if Left, Up if Right), then player 2s best
response is Left. If player 1s strategy is (Up if Left, Down if
Right), then player 2s best response is Right. In other words, both
(Up, Left) and (Down, Right) are possible outcomes in SPEs of this
game.
 2. Consider the following simultaneous move game with two pure strategies for
player 1 and three pure strategies for player 2.

Left Middle Right

Up 6, 1 1, 5 4, 7
Down 5, 7 1, 5 7, 4

(a) Are there any pure strategy Nash equilibria of this game?

Player 2s best response to Up is Right and player 2s best response to

Down is Left. But player 1s best response to Right is Down and
player 1s best response to Left is Up. Therefore, there is no pure
strategy equilibrium of this game.

(b) Suppose that player 1 plays the mixed strategy that selects Up with probability p
and Down with probability 1-p. Solve for player 2s best response as a function of p.

Solving for player 2s expected payoffs as a function of p:

E(Left) = 1p + 7(1-p) = 7 6p
E(Middle) = 5p + 5(1-p) = 5
E(Right) = 7p + 4(1-p) = 4 + 3p

Left gives a higher expected payoff than Middle if 7 6p > 5, or p < 1/3
Left gives a higher expected payoff than Right if 7 6p > 4 + 3p or p < 1/3
Middle gives a higher expected payoff than Right if 5 > 4 + 3p or p < 1/3.

That is, if p < 1/3, Left gives a higher expected payoff than the other pure
strategies, while if p > 1/3, Right gives a higher expected payoff than the
other pure strategies.

Thus, if p < 1/3, Left is the best response for player 2, while
if p > 1/3, Right is the best response for player 2.

Finally, if p = 1/3, all three strategies for player 2 give the same expected
payoff and therefore any feasible mixed or pure strategy for player 2 is a best
response.

(c) This game actually has a set of mixed strategy equilibria where player 2 plays all three
pure strategies with positive probability.
(c1) Solve for the general form of this mixed strategy equilibrium as a function of
q, where q is player 2s probability of selecting Middle.

From the answer to (c), player 1 must use the strategy with p = P(Up) = 1/3 in
any mixed strategy Nash equilibrium.
 In a mixed strategy equilibrium, player 1s expected payoff is the same for
both pure strategies:

6 P(Left) + P(Middle) + 4 P(Right) = 5 P(Left) + P(Middle) + 7 P(Right)

OR P(Left) = 3 P(Right).

Assuming P(Middle) = q, then we have three equations in three unknowns:

P(Left) + P(Middle) + P(Right) =1

P(Left) = 3 P(Right)
P(Middle) =q

Substituting the last two equations into the first one gives

3 P(Right) + q + P(Right) =1
OR P(Right) = (1-q) / 4.

Thus, any mixed strategy equilibrium where player 2 plays all three pure
strategies with positive probability takes the form (1/3, 2/3) for player 1 and
[3(1-q) / 4, q, (1-q) / 4] for player 2.

(c2) Explain in words what property of the payoffs in this game leads to the
existence of this mixed strategy equilibrium when, in general, 2x3 games do not
have a mixed strategy equilibrium where one player plays all three strategies with
positive probability.

As shown in part (c), the lines for player 2s expected payoffs as a function of
p intersect in a single point. (Ordinarily, three separate lines have three
separate pairwise intersection points.)

(d) Explain why there are no mixed strategy equilibria of this game where player 2 plays
Middle and exactly one other pure strategy with positive probability.

In any 2x2 game with Middle and one other strategy for player 2, player 1
will have a weakly dominated strategy, since player 1s payoff is the same
value (1) for either strategy when player 2 plays Middle.

Specifically, if player 2 only plays Middle and Left with positive

probability, then Up weakly dominates Down for player 1.

Similarly if player 2 only plays Middle and Right with positive

probability, then Down weakly dominates Right for player 1.

In either case, if player 2 plays a mixed strategy with positive probability of

Middle and one other strategy, then player 1s best response is the weakly
 dominant pure strategy implying that there cannot be a mixed strategy
equilibrium.

(e) Solve for all mixed strategy equilibria where player 2 plays Left and Right with
positive probability and Middle with probability zero.

From part (c), player 2 is only indifferent between Left and Right if
player 1 plays a mixed strategy with P(Up) = 1/3.

If player 2 plays Left with probability x and Right with probability 1-x,
then player 1s expected payoff from Up is 6x + 4(1-x) = 4 + 2x, and player
1s expected payoff from Down is 5x + 7(1-x) = 7 2x. Setting these
expected payoffs equal yields the solution x = 3/4.

That is, there is a unique mixed strategy equilibrium of this form where
player 1s strategy is (1/3, 2/3) and player 2s strategy is (3/4, 0, 1/4).
3. Consider the following three-player, extensive-form game. If player 3 gets to move, he
does not observe whether player 1 played L (node 3.1) or player 1 played R and player 2
played A (node 3.2).

a. Find all pure strategy Nash equilibria of this game.

There are two NE of the game, L,B,X and R,B,Y. You can find this by writing
out the game in Normal form and underlining best responses:

Player 3 X Y
Player 2 A B A B
L 4,4,4 4,4,4 1,1,1 1,1,1
Player 1
R 5,5,0 3,3,0 2,2,2 3,3,0

b. For each pure strategy Nash equilibrium of this game, explain whether that strategy
profile is also a subgame-perfect Nash equilibrium of this game.

There are no proper subgames of this game, and hence any NE is trivially a
SPNE.

c. What conditions must be specified in a Perfect Bayesian equilibrium of this game?

You do not need to find any equilibrium at this stage, merely state the definition of PBE
as applied to this game.

A PBE specifies strategies and beliefs, p, that if player 3 gets to move, node
3.1 is active. Each player best responds to the other players strategies, given
the beliefs. Finally, the beliefs must be consistent with Bayes rule on the
equilibrium path.
d. For each pure strategy Nash equilibrium of this game, explain whether that strategy
profile is also part of a Perfect Bayesian equilibrium. If the strategies are part of a PBE,
fully describe it. If the equilibrium cannot be part of a PBE, explain why it cannot be.

Begin with the L,B,X equilibrium, and denote p = Pr(3.1 | info set 3). If
player 1 plays L, then 3s information set is on the path. Player 3 must assign
p = 1, and play X. Sequential rationality now requires that 2 best responds to
the other players strategies when it moves. Conditional on getting to move,
player 2 must choose A if player 3 chooses X. Thus, this cannot be part of a
PBE.

Consider the other equilibrium, R,B,Y. Here, 3s information set is off the
path. Sequential rationality for 2 is satisfied, since it earns 3 from B and 2
from A Y. We just need to specify beliefs such that 3 is willing to play Y.
This will be true if p is small enough. One such PBE has p = 0.

Historical Note: This game, known as Seltens Horse, is one of the classics
of game theory and one of the original games used to motivate the need for
beliefs and sequential rationality in extensive forms. Its originator, Reinhard
Selten, won the Nobel Prize in economics in 1994, along with John Harsanyi
and John Nash.