Pareto Optimality

In non-cooperative game theory, the focus is on the agents in the game and the strategies that optimise their payoffs, resulting in some form of equilibrium. However, the issue arises when what turns out to be the equilibrium is suboptimal for all the agents when taken as a whole. One way of defining suboptimal for all is the idea of Pareto optimality, which is a notion of efficiency or optimality for all the members involved. An outcome of a game is Pareto optimal if there is no other outcome that makes every player at least as well off and at least one player strictly better off. This is in contrast to Nash equilibrium, which is a solution concept of non-cooperative games. In general, Nash equilibrium does not correspond to a socially optimal outcome, and it is possible for all players to improve their payoffs by collectively agreeing to choose a strategy different from the Nash equilibrium. The prisoner’s dilemma is a central object of studying game theory as it demonstrates the contrast between Pareto optimality and Nash equilibrium. All overall efficient outcomes in the prisoner’s dilemma are the ones that do not occur in equilibrium, making it a classic illustration of the core dynamic between cooperation and competition. The next section of the course will focus on the dynamics of cooperation, where the overall outcome will be considered instead of optimising individual payoffs.