MICROECONOMIC: GAME THEORY FROM ISLAMIC PERSPECTIVE
Posted by ahmadfathi83 on October 21, 2008
MICROECONOMIC: GAME THEORY FROM ISLAMIC PERSPECTIVE
ACKNOWLEDGEMENTS
Praise is to Allah SWT, Lord of the worlds, eternal Guidance of the heavens and earths, Rulers over all creatures. Peace and blessing be upon the master and seal of the Prophet, and upon the rest of the Prophets and Messengers, upon the families of them all, and up all the believers.
We would like thank our great lecturer; DR. M. SHABRI ABDUL MAJID for his great assistance during our research on the topic of: Game Theory: Islamic Perspective.
Before we continue, we hope and pray to Allah SWT, to give our lecturer and us rewards for this effort and to earn good mark for this term paper. Amen.
ABSTRACT
The practice of conventional game theory has widely implemented in our daily business life or economics life. Since now, there is no research has been made regarding game theory from Islamic perspective. Thus, we take this great opportunity to become the pioneer in this field of study. The purpose of this study is to discuss the issues on game theories which violate the Islamic principles or Shariah. However, the ultimate purpose of this research is to understand the practices of game theory as well as the issues related with game theories. The methodology used to achieve the objective of this paper; by literature review, internet sources, Al-Quran, As-Sunnah, Muslims scholars views. The findings of this paper; game theories violate Islamic Shariah while there are possibilities that some of the game theories does not violate. The limitation of this study; there is not sufficient resources to further understand this subject. Consequently, there is no econometrics test to prove the finding. Besides, our critics will depend on a brief understanding of the game theories and Islamic Shariah.
INTRODUCTION
Muslims Ummah has awake from prolong sleep; they start to revise back most of the conventional systems that govern them for more than a century. From economics outlook; there has been a lot of modification and improvement from conventional economics system to Islamic economics system; such as development of Islamic banking. However, partial modification and changes does not fulfill the objective of Islamic economics, thus it need more expertise in this field of study. Meanwhile, there are certain areas in which the scholars might overlook; such as game theory. Therefore, we take this initiative to be the pioneer in this area; relating conventional game theory and Islamic Principles. Thus, our objective of this study is to discuss few issues related with conventional game theory from Islamic Shariah view. Besides, we aim to Islamize game theory if possible by modifying some assumption, objectives and its applications. With the limitation of this study, we will briefly discuss three issues from game theories; tit-for-tat strategy, zero-sum games and auctions. Since, the data and information are restricted; there would be no econometrics test to prove the finding. Therefore, the critics, modification and suggestion will solely base on qualitative measurement from literature review and Islamic Principles.
Furthermore, clear understanding of conventional is needed before any critics, modification and suggestion have been made. Game theory involves two players or more, one player chooses the optimal strategy and takes into account the opponent or competitor or rival actions. Usually, it is related to the firm output decision, business strategy and price setting; as the firm will choose the optimal strategy which maximize profit and minimize cost. Besides, game theory also uses with other field of study; politics and others. In politic, it is used to understand the conflict between countries or within the country; such as in the article “A Game Theory Review on Aceh Conflict”[1]. However, our focus on game theories related with economics activities.
GAME THEORY: ISLAMIC PERSPECTIVE
a) Tit-For-Tat Strategy
It is defined as a repeated game strategy in which a player responds in kind to an opponent’s previous play, cooperating with cooperative opponents and retaliating against uncooperative ones. The main objectives is to find the strategy that most robust which will work best on average against all, or almost all, other strategies. To make clear for this strategy, tit-for-tat is done whenever one player said: “I start out with a high price, which I maintain so long as you continue to cooperate and also charge a high price. As soon as you lower your price, however, I follow suit and lower mine. If you later decide to cooperate and raise your price again, I will immediately raise my price as well”
Consider this example;
TABLE: Pricing Problem Firm1
Low Price High Price
|
1, 1 |
10, -5 |
|
-5, 10 |
5, 5 |
Firm2 Low Price
High Price
Supposedly the game is infinitely repeated or in other words, firm1 and firm2 will repeatedly set price month after month forever. In tit-for-tat strategy, the assumption is that, the competitor (firm2) knows, or can figure out that firm1 is using tit-for-tat strategy. Initially, firm2 set at higher price and firm1 follow suit to earn equal profit of RM5. However, firm2 “breaks the promise” and set lower price to earn RM10 profit at the same time firm1 still at the higher price and lose RM5. Because firm2 knows that firm1 will set a lower price at the following month which will make its profit fall, therefore firm1 will remain low as long as both of them continue to charge a low price. This undercuts strategy is not rational decision because both firm will earn less profit than it should be.
Islamic Perspective:
In Al-Quran and As-Sunnah there are many evidences that show; Allah SWT has permitted man to conduct trading. However, it must be in line with Shariah rules in terms of method conducting the trade; from both suppliers and buyers. Besides, the resources and the profit should be halal; otherwise it is invalid or haram. Refer to the above tit-for-tat strategy that explained earlier, we can see that at the first event, both firm mutually agreed about to set high price in order for both of them to earn profit equally; thus no lose for both parties. But, when the firm2 break the promise, will result earn higher profit (RM10); while making the other suffer loses (RM5). This proves that cheating has occurred in running the business from this strategy. Islamic principles have shown many evidences that; Allah prohibited cheating in conducting business or in any conduct. In one tradition of the Prophet SAW; cheating is one of the signs of Munaafiq, this indicate that cheating is prohibited in Islam. Besides, in this game theory strategy; there is possibility of making others or competitors to suffer losses and being selfish. These evidences imply that in tit-for-tat strategy has many possibilities of violating Islamic Principles. Moreover, the objective of the Islamic economy is to establish ‘justice & benevolence’ (‘Adl & Ihsan). In this respect, Allah SWT has ordained in the Holy Quran: “Allah commands justice, the doing of good and liberality to kith and kin and He forbids all shameful deeds and injustice and rebellion” (Surah An-Nahl: 90). This verse implies that; Allah SWT commanded man to establish justice and equity in all aspects of our life. Thus, we have to ensure justice and good conduct not only in our individual life but also in the socio-economic sphere.
As conclusion, it is difficult to find the best solution for cheating behavior and injustice because as a conventional way of thinking; human being will always act irrationally to get what they deserve such as to earn higher return on business; one will cheat, oppress others and act injustice, ignoring the Shariah laws. For Muslims, it is their duty to implement the Shariah laws to benefit mankind. In addition, Allah SWT provides profit as an alternative for usury (Riba’) so that all mankind will struggle to get the good income which only blessed by Allah SWT. Tit-for-tat strategy may be implemented if both of the firms act justice and share equal profit such as collude to set lower price. Therefore, this will benefit both consumers and producers; while get the blessings from Allah SWT.
b) Zero Sum and Non-Zero Sum Game
Zero sum game is a special case of constant sum games, in which choices by players can neither increase nor decrease the available resources. In zero-sum games the total benefit to all players in the game, for every combination of strategies, always adds to zero (more informally, a player benefits only at the equal expense of others). Poker exemplifies a zero-sum game, because one wins exactly the amount one’s opponents lose. Other zero sum games include matching pennies and most classical board games including Go and chess.
|
|
A |
B |
|
A |
–1, 1 |
3, –3 |
|
B |
0, 0 |
–2, 2 |
|
A zero-sum game |
||
Comparison: Refer to the payoff below; some outcomes have net results greater or less than zero. Informally, in non-zero-sum games, a gain by one player does not necessarily correspond with a loss by another.
 |
Islamic Perspective:
Zero sum games correspond to activities like theft and gambling, but not to the fundamental economic situation in which there are potential gains from trade. Islam has been strictly forbidden such game or business in which it will violate the rule of equivalent and it is against the Shariah. As stated in the Quran (5:90)
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The term “Maysir” includes all kinds of gambling. The wisdom behind this ruling is that, the fairness in trading is absence and the risks involve in that particular transaction entail loss and gain in which the hope of gain motivating the choice towards risks. Also, the so called zero-sum game is a game that gives rises to hostility, deception and impunity.
Besides, the strategy that the player has to choose in this game is randomly selected, thus it opens to many ambiguous outcomes that a player may get. The uncertain outcomes are what Islam recognized as Gharar is prohibited and one of the criteria that one should observe in any business. The Prophet had mentioned about this once, in order to safeguard the interest of traders as well as that of the consumers, and prevent social conflict arising out of contracts that involve obvious elements of uncertainty.
As conclusion, conventional zero sum games need some modification;
The application: Instead of applying for gambling or poker as the conventional practices, we may apply it to the other Islamic legal business conduct.
Restriction: The benefit that each player gets should not be at the expense of other player. Otherwise, this game will be abandon from the application of Islamic game theory.
Objective: It should not limit towards profit maximization at the expense of others. But, the objective should be extended inline with purpose of life accordance to Islamic teachings.
c) Auctions
According to PINDYCK; auction is the process when “Products are bought and sold through formal bidding processes”.[2] Besides, according to WIKIPEDIA; “an auction is a process of buying and selling goods by offering them up for bid, taking bids, and then selling the item to the winning bidder”.[3] While from the FATWA; “an auction contract is an exchange contract involving an invitation to interest parties, verbally or writing, to partake in the auction. The contract is concluded by the consent of seller”.[4] Auction is so popular today because it is efficient, effective, convenience and cost saving. Because of lower transaction costs and it is a kind of interactive trading, people tend to enter the auction market, rather than one-to-one trading. Common uses for auctions; some typical auction areas include the antique products, sale of collectibles such as stamps, coins, classic cars, fine art, and luxury real estate, sale of consumer second-hand goods, sale of commodities like the fish wholesale auctions, debt auctions, in which governments sell debt instruments, such as bonds to investors, and in legal contexts where forced auctions occur when one’s farm or house is sold at auction on the courthouse steps. Auction formats; there are three basic formats in auctions which are traditional English, Dutch, and sealed-bid auction;
1. Traditional English (oral): It is an auction in which the seller actively solicits progressively higher bids from a group of potential buyers. Buyers are always aware of highest bid and the auction will only stops when no one passes highest bid. Thus, the item is sold to the highest bidder.
2. Dutch auction: An auction whereas the seller begins by offering item at relatively high price, then reduces it by fixed amounts until item is sold. First buyer accepting offered price can buy item at that price. This auction also called as oral with decreasing bids.
3. Sealed-bid: All bids are made simultaneously in sealed envelopes, where winning bid is the one who submitted highest bid. There are two types of sealed- bid which are first price and second price sealed-bid. First price is when the sales price equals highest bid, and Second price is when the sales price equals second highest bid.
Types of auction; there are two types of auctions which are private-value auction and common-value auction.
1. Private-value auction: bidder knows individual valuations of object or their own reservation price. But, valuations differ from bidder to bidder.
2. Common-value auction: bidders uncertain what the value is, so the item will be auctioned approximately with same value of all bidders. For example, an auction of a large jar of gold coins. Without count and open the jar, bidders have to estimate the value of coins inside the jar. The winning bidder is likely to be the person that overestimates the value of gold coins. Say that the estimations is 500, 540, 600, 690. The jar value is actually 680. So, last bidder who bid for 690 is the winner. In reality, the winner is happy at the first place, but he or she is actually worse off. This is called as the winner’s curse. The winner is worse off because they overestimated the value of the item and thereby overbid. Therefore, to maximize the pay off, bidder must reduce bid by amount equal to the expected error of the winning bidder.
Current application of auction; it is Internet auction. Most popular internet auction site is eBay because it dominates online person-person auction industry and having large network externalities. Thus, most of buyers tend to choose auction site with largest number of potential bidders to increase their bargaining power. However, eBay auctions are somewhat different from types discussed. Because, in reality, there are applying different formats which is increasing-bid for single item, and increasing-bid for several identical items. Uniquely, in eBay, seller will impose a minimum acceptable bid or their reservation price. But, this reserve price will generally not be told to the buyers. So, the winner’s curse might be existed. Unlike traditional auction sites, eBay has several shortcomings like no quality control function, poor seller feedback, and bid manipulation may occur.
Islamic perspectives:
An auction sale is a kind of sale that is widely used in today transaction. Islam do not reject auction contract because there is a need for bidding, either optional for individual or compulsory for the case of auctions dictated the law. [5] However, if there are negative elements such as oppressing, cheating or fraud, this transaction must be regulated by some regulation from the administration or government. It is to ensure the rights of parties involved is preserved well and accordance to the Shari’ah. According to Imam Hambali, there are three types of deception (ghubn) which are meeting the caravans outside the city, price hiking, and sale or lease with unsound judgment. The last two types of ghubn are relevant to the auction case.
First, let us look at price-hiking or fraudulent overbidding (najash). It is the practice where a third party intentionally bids-up the price of an object, with no intention to buy it. Al- najash is forbidden in Islam since it deceives the buyer. Thus, the buyer has a right of option to return the object or keep it. Second, sale or lease with unsound judgment (bay’ al-murtasil). The unsound judgment is resulting from the ignorance of the value of object sale. If the injustice in pricing was unusually high, the deceived party has an option.[6] Other than that, Islam does not allow asymmetric information exist in the market. It will lead to dispute and oppression of one’s party. Ideally, if one of the parties knows the information, they should share the information to another party, and not let others to be ignorance and being unjust. Here, the concept of amanah and brotherhood is so essential in developing healthy environment.
Bargaining problem[7] may arise when there is gain of trade, whereas the buyer has overvalued the items more than seller. Thus, seller may gain but it is not fair if the buyer realized their ignorance. This may happen when there is too small of market size and no obvious price standards. In contrast, in private-value auction markets, collusion is possible. It is private and it reduces the number of active bidders, whereas it leads to increase in bargaining power of buyers as a whole. Thus, it diminished the revenue gained by the seller.
CONCLUSION
Indeed, there are many negative outcomes from conventional game theory as we had discussed in the earlier part. It violates the Islamic Principles from the objective, concept, method and application. Islam does stress about the real intention; as mentioned in one tradition of the Prophet SAW, “indeed, every deed depend on its intention”. Conventional ultimate purpose of this game theory is to maximize profit and minimize loss by any means; while Islam ultimate purpose is to gain the blessing from Allah SWT and any acts will be accountable in the Day of Judgment; thus, a Muslim will reconsider to do any sinful act. Moreover, certain concepts of the game theory definitely violate Islamic Principles; such as absolute cheating is allowed. Accordance with Islamic Shariah, cheating is kind of attribute of Munaafiq; as mentioned in one tradition of the Prophet SAW. Besides, the applications of game theory create negative values in Muslim business world; such as oppression, injustice and selfish. Furthermore, game theory is used as a strategy for decision making; for conventional decision making restricted with individualistic motivation (profit maximization). Meanwhile, Islamic strategy for decision making has wider outlook; individual, social-justice, environment and religion-relation with Allah SWT.
As conclusion, game theory needs further discussion related with Islamic Shariah in order to ensure the Islamize game theory; as to wider it uses in Islamic economics as well as the other fields. More Islamic economics expertises are to be developed in future with well equipped with Islamic Principles as well as the economics knowledge.
REFERENCES:
- A Game Theory Review on Aceh Conflict, Saiful Mahdi, Graduate Student in Regional Sciences,Cornell University, Ithaca NY 14850, USA, sm364@cornell.edu
- Resolution & Recommendation Of The Council Of Islamic Fiqh Academy 1985-2000, Jeddah. Resolution 73 (4/8): Auction Contracts, pp 157, June 1993. Islamic Research and Training Institute (IRTI) Islamic Development Bank, Jeddah, Saudi Arabia. www.irtipms.org/OpenSave.asp?pub=73.pdf
· Pindyck.R. & Rubinfeld.D., Microeconomics 6th ed.: Game Theory and Competitive Strategy, pp.503-510.
- Zuhaily. W, Financial Transactions in Islamic Jurispudence, V1: Options. Dar Al Fikr, Damascus, 2003, pp.173.
[1] A Game Theory Review on Aceh Conflict, Saiful Mahdi, Graduate Student in Regional Sciences,Cornell University, Ithaca NY 14850, USA, sm364@cornell.edu
[2] Pindyck & Rubinfeld, Microeconomics 6th ed.: Game Theory and Competitive Strategy, pp.503.
[4] Resolution 73 (4/8): Auction Contracts, pp 157, June 1993.
[5] Resolution 73 (4/8): Auction Contracts, pp 157, June 1993.
[6] Zuhaily Wahbah, Financial Transactions in Islamic Jurispudence, V1: Options, pp.173-174.
Ahmad Fathi MKO 
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