BACKWARD INDUCTION: MERITS AND FLAWS

Backward induction (BI) was one of the earliest methods developed for solving finite sequential games with perfect information. It proved to be especially useful in the context of Tom Schelling’s ideas of credible versus incredible threats. BI can be also extended to solve complex games that include an infinite number of actions or an infinite number of periods. However, some more complex empirical or experimental predictions remain dramatically at odds with theoretical predictions obtained by BI. The primary example of such a troublesome game is Centipede. The problems appear in other long games with sufficiently complex structure. BI also shares the problems of subgame perfect equilibrium and fails to eliminate certain unreasonable Nash equilibria.