Rational Actor, Behavioral Economics, and Rule-Based Models
In the Beauty Contest (p-guess game), N players each pick a number from 0-100. The winner is closest to p times the average of all guesses. Level-0 thinkers guess randomly (~50). Level-1 thinkers assume others are Level-0, so they guess p*50. Level-2 thinkers guess p*p*50, and so on. The Nash equilibrium is 0, but real people typically guess 20-35 in the first round.
In the Ultimatum Game, a proposer offers a split. The responder accepts or rejects. Rational theory says accept any positive amount, but humans reject "unfair" offers ~50% of the time.
Click gambles below to reveal your implied value function:
Prospect Theory (Kahneman & Tversky): People evaluate outcomes relative to a reference point. Losses hurt ~2.25x more than equivalent gains feel good. The value function is concave for gains (risk aversion) and convex for losses (risk seeking).
Hyperbolic Discounting: People prefer $100 today over $110 tomorrow, but are indifferent between $100 in 30 days and $110 in 31 days. This time inconsistency differs from rational exponential discounting.
Zero Intelligence (ZI) traders submit random bids and asks. With budget constraints (ZI-C), buyers cannot bid above their value and sellers cannot ask below their cost. Remarkably, even these "mindless" traders produce realistic market outcomes: prices converge near equilibrium, and the double auction mechanism extracts nearly all available surplus.
This demonstrates that market institutions (rules and structure) can matter more than individual intelligence in producing efficient outcomes.