Game theory is a way of creating a simplified interactive environment (a ‘game’) that allows researchers to model how people and entities will respond to certain actions.
Developed by John von Neumann, game theory is one of the most widely-used theories within the study of economics. To put it simply, game theory is a way of creating a simplified interactive environment (a ‘game’) that allows researchers to model how people and entities will respond to certain actions.
One of the most famous game theory illustrations in action is the prisoner’s dilemma. The prisoner’s dilemma is a game in which the participants have a zero-sum incentive to harm each other and a non-zero-sum incentive for not hurting each other. It was conceived as a thought experiment that is a two-person non-cooperative variable-sum game.
Game theory can also be understood in the context of the digital assets marketplace. For instance, the Bitcoin market can be described as two types of investors, the holders (i.e. long-term investors) and the opportunists (i.e. short/medium-term investors). In general, holders will buy during low-volatility periods. Opportunists will end such periods and trigger volatility when they enter the market. Thus, each type of investor has two strategies they can use, depending on the behavior of the other type of investor. All are acting in their interests, competing for asymmetric rewards while cooperating to grow the overall value of BTC. This is a perfect application for game theory as it observes two separate groups of persons reacting and responding to the behavior of the other group — an ideal application for game theory.
Author: Gunnar Jaerv is the chief operating officer of First Digital Trust — Hong Kong’s technology-driven financial institution powering the digital asset industry and servicing financial technology innovators. Prior to joining First Digital Trust, Gunnar founded several tech startups, including Hong Kong-based Peak Digital and Elements Global Enterprises in Singapore.
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