The Folk Theorem for Repeated Games: A Neu Condition

Abstract

WE ARE CONCERNED here with perfect for infinitely repeated games with complete information. Folk theorems assert that any feasible and individually rational payoff vector of the stage game is a (subgame perfect) equilibrium payoff in the associated infinitely repeated game with little or no discounting (where payoff streams are evaluated as average discounted or average values respectively). It is obvious that feasibility and individual rationality are necessary conditions for a payoff vector to be an equilibrium payoff. The surprising content of the folk theorems is that these conditions are also (almost) sufficient. Perhaps the first folk theorem type result is due to Friedman (1971) who showed that any feasible payoff which Pareto dominates a equilibrium payoff of the stage game will be an equilibrium payoff in the associated repeated game with sufficiently patient players. This kind of result is sometimes termed a Nash threats folk theorem, a reference to its method of proof. For the more permissive kinds of folk theorems considered here, the seminal results are those of Aumann and Shapley (1976) and Rubinstein (1977, 1979). These authors assume that payoff streams are undiscounted.2 Fudenberg and Maskin (1986) establish an analogous result for discounted repeated games as the discount factor goes to 1. Their result uses techniques of proof rather different from those used by Aumann-Shapley and Rubinstein, respectively. See their paper for an insightful discussion of this point, and quite generally for more by way of background. It is a key reference for subsequent work in this area, including our own. For the two-player case, the result of Fudenberg and Maskin (1986) is a complete if and only if characterization (modulo the requirement of strict rather than weak individual rationality, which we retain in this note) and does not employ additional conditions. For three or more players Fudenberg and Maskin introduced a full dimensionality condition: The convex hull F, of the set of feasible payoff vectors of the stage game must have dimension n (where n is the number of players), or equivalently a nonempty interior. This condition has been widely adopted in proving folk theorems for related environments such as finitely repeated games (Benoit and Krishna (1985)), and overlapping generations games (Kandori (1992), Smith (1992)). Full dimensionality is a sufficient condition. Fudenberg and Maskin present an example of a three-player stage game in which the conclusion of the folk theorem is false. In this example all players receive the same payoffs in all contingencies; the (convex hull of the) set of feasible payoffs is one-dimensional. This example violates full dimensionality in a rather extreme way. Less extreme violations may also lead to

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