Lecture 13 - Sequential Games: Moral Hazard, Incentives, and Hungry Lions

We consider games in which players move sequentially rather than
simultaneously, starting with a game involving a borrower and a
lender. We analyze the game using “backward induction.” The game
features moral hazard: the borrower will not repay a large loan. We
discuss possible remedies for this kind of problem. One remedy
involves incentive design: writing contracts that give the borrower
an incentive to repay. Another involves commitment strategies; in
this case providing collateral. We consider other commitment
strategies such as burning boats. But the key lesson of the day is
the idea of backward induction.