Thomas R. Palfrey's research spans a range of topics in game theory and its applications to economics, political science, and political economy. His focus is on understanding how people devise strategies when they have incomplete information, combining theoretical, experimental, and empirical analysis. He has applied his research to study elections, committee decision making, auctions, bargaining, public finance, and mechanism design.

In one of his more noteworthy contributions, he and Richard McKelvey used observations from experiments to develop a general theory of strategic behavior that incorporates human error, called quantal response equilibrium, which has been applied to study a broad range of political, economic, and social behavior.

Palfrey founded the Social Science Experimental Laboratory (SSEL) at Caltech in 1998 and served as the director three times (1998–2000, 2002–2004, 2009–2014). Research in SSEL focuses on experimental economics, game theory, finance, decision making, and political science. Palfrey subsequently co-founded the California Social Science Experimental Laboratory (CASSEL) at UCLA with David K. Levine, where he served as co-director from 2000–2004 and 2008–2013. He also founded the Princeton Laboratory for Experimental Social Science (PLESS) in 2004. And he was the founding co-director of the Caltech-MIT Voting Technology Project from 2000–2002 alongside Stephen Ansolobehere.

From 1995 to 1997, Palfrey served as president of the Economic Science Association, the leading international organization in experimental and behavioral economics, and he has been a research associate at the National Bureau of Economic Research since 2013. He has held numerous editorial board positions for leading journals in economics and political science and served as editor of Games and Economic Behavior from 2007–2015. Palfrey was a professor of political economy at Carnegie Mellon prior to joining the Caltech faculty in 1986, and he was a professor of politics and economics at Princeton University from 2004 to 2006. He has held visiting positions at UCLA, New York University, Columbia University, Princeton University, the University of Pennsylvania, Texas A&M University, Universitat Autònoma of Barcelona, and several universities and research institutions in France, including a Chargé de Mission at INSEE from 1995–1996. Palfrey was awarded the Chaire d'Excellence Pierre de Fermat professorship for two years at the University of Toulouse (2005 and 2006) and he served for six years on the scientific council of the Institute for Advanced Study in the Social Sciences in Toulouse, France from 2010 to 2016. He has also been a visiting research professor of collective decision making in the markets and choice research group at the Wissenschaftszentrum Berlin für Sozialforschung (WZB) since 2019.

Palfrey was chosen as a fellow of the Center for Advanced Study in the Behavioral Sciences (in residence 1986–1987) and was selected as a visiting research fellow at the Russell Sage Foundation (in residence 2014–15). He is also a fellow of the Econometric Society (elected 1995), a fellow of the American Academy of Arts and Sciences (elected 2008), an Economic Theory Fellow of the Society for the Advancement of Economic Theory (elected 2011), and a fellow of the Game Theory Society (elected 2017). In 2021, Palfrey received the William H. Riker Prize for Political Science, which is awarded every two years to a social scientist in recognition of research that advances the scientific study of politics in the spirit of William Riker.