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Congressional Deficit “Games”

Sep 25, 2011 • Behavioral Economics, Government, Macroeconomic Measurement, Thinking Economically • 200 Views    No Comments

Composed of 6 Democrats and 6 Republicans, the congressional super committee is supposed to create a deficit reduction plan. If they do not propose the plan or if Congress does not approve their plan, then automatic cuts are triggered. The automatic cuts include policies that each party opposes.

As talks unfold, the Republicans could wind up with either:

  1. Continued tax cuts and less spending
  2. Compromise on deficit reduction
  3. Automatic cuts

Meanwhile, the Democrats could wind up with either:

  1. Continued entitlement spending and tax increases
  2. Compromise on deficit reduction
  3. Automatic cuts

#1 is best for each one but tough to achieve. #2 is the compromise. #3 is the disaster.

The Economic Lesson

Sounds like the super committee is facing the prisoners’ dilemma.

Imagine for a moment 2 prisoners who were just arrested. Interrogated by police in separate rooms, each prisoner wants to minimize jail time. The problem is that each one’s fate depends on what the other prisoner does. And, neither knows the other’s strategy.

  1. The best alternative is to confess, incriminate the other prisoner and get a suspended sentence but that works only if the other prisoner remains silent.
  2. Another alternative is to remain silent and get a brief jail term. But then both need to say nothing.
  3. Finally, if both confess, then they each receive a very long jail term.

Like the super committee, #1 is best for each one but tough to achieve. #2 is the compromise. #3 is the disaster.

An example of economic game theory, the prisoners’ dilemma involves strategizing against a second party that has the power to affect the consequences of your decisions.

Game theory has been called the economics of cooperation (or non-cooperation). Whether looking at disarmament negotiations, Pepsi and Coke or Democrats and Republicans, the basic strategic patterns are similar. John Nash won a Nobel Prize for his research about Game Theory.

Here, NPR Planet Money called the super committee negotiations a game of chicken.

An Economic Question: How might Coke’s and Pepsi’s decisions resemble the prisoners’ dilemma?

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