This is a paradox in decision analysis in which two individuals acting in their own interests, eventually leading to a less than desirable outcome. The situation is set up in such a way that both parties are unable to communicate with each other, while they pursue self-interests at the expense of the other party. Following a logical process to act solely on their own behalf, they both face the worst scenario as opposed to the better circumstances if they had acted with each other in mind.
The typical setup involves two individuals who are being interrogated in separate rooms. They are given the option of confessing or not; confessing would guarantee immediate release, while the other receives lengthy imprisonment. If they both confess, then they will both receive shorter sentences, but if neither of the two confesses then they will not be imprisoned because there is no confession implicating the other party.
From this example, we see clearly that the pursuit of self-interest would result in the worst scenario for both parties. The Prisoner’s Dilemma is a popular theory in business and is used in situations where perceived greed does harm.
Another example would lend a scenario where competing companies are focused on their own interests: increasing profits.
Where there are two companies that both sell mobile phones, if one lowers the price, its competitor can either follow suit to remain competitive or retain its current price. If the latter company lowers the price, then they both remain competitive and the influx of new customers will offset the reduced price. If the latter doesn’t, then it becomes the unfavorable party in the market. If the former company had not lowered its price, they both would have experienced growth at a slower rate, providing that the market is stable.
With this insight of rational thinking, how can you use this to your advantage? If the former company had lowered the price of their mobile phones knowing that their competitor would not be able to lower their price, then it would force the market into its favor. Of course, that is dependent on knowledge that is outside the circumstances of a traditional prisoner’s dilemma.
If the latter company has constraints for the manufacture of the product or brand identity to maintain, then significantly reducing its price can make their current audience wary of the product’s real value. On the other hand, not reducing the price will allow a slower growth of new customers and potentially create a transfer of its customer base to the competitor.
In this scenario, the former company, the one who initiates the lowered price point has the upper hand. If the latter company follows suit, then they might alienate customers, but could potentially attract new ones. However, the growth might not outweigh the loss of revenue.
This analysis of decision making is critical for businesses. Posing hypothetical situations allow you to strategize market penetration and stay ahead of competitors.