Wednesday, July 17, 2013

Deep understanding of non-market economic behavior is the stuff of Nobel prizes

This morning has been one of those fascinating cases where after reading something pretty straightforward and insightful (from Krugman, see last post), I then sign on to facebook and see the initial reactions to it and come across a flood of people who read it completely different. These are nice learning experiences I think - good opportunities to explore different perspectives.

Jonathan Catalan most explicitly and several others have taken the view that Krugman was using the term "free market true believer" to mean "anyone that likes markets" (I guess). I didn't read it that way because he cited Williamson and alluded to Coase, who both like markets. Not to mention the fact that Krugman likes markets. I figured "free market true believer" was just a euphemism for Randians. Actually Krugman is using it here in the same way I see a lot of libertarians use it - as a synonym for "libertarian" (which is an awful use of the term IMO - Stiglitz does this too and it's like nails on a chalkboard to me).

All this distracts, though, from the real point of the post which is the importance of non-market activity. As economists we spend a lot of time thinking about markets and how great they are, so sometimes it takes effort to take a step back and realize how pervasive non-market activity is. It's all around us and it's embedded in markets themselves (Krugman's point about allocation within the firm).

In the second half of the twentieth century, after the scientific understanding of market activity had been thoroughly formalized, many economists turned their attention to a formal understanding of non-market economic activity (i.e. - choice and/or exchange under conditions of scarcity). This broad understanding of "the economics of non-market activity" includes some of the most crucial contributions in the science in the last several decades - and so understandably it's the stuff of many Nobel prizes.

The first wave of Nobel prizes for this kind of work I would say started with Buchanan, followed by Coase and then Becker. Of course people have been talking about this for centuries, but Coase was chronologically the first to break ground in what you might call the "modern" work on non-market activity, setting the stage for a lot of the IO contributions. Becker and Buchanan followed with work on the non-market behavior directly relevant to the individual and non-market behavior relevant to collectives, respectively. Soon after this first wave came Nash and Selten's Nobel. The work of Nash and Selten have applications to market activity, but of course game theory is one of the most common ways of formalizing non-market activity too.

Then, in the 2000's we had a flood of Nobels for people working on these problems: Smith, Aumann, Schelling, Hurwicz, Maskin, Myerson, Ostrom, Williamson, Diamond, Mortensen, Pissarides, Roth, and Shapley all in some way built on our understanding of decision making but in cases where we weren't making trade-offs directly in a market context.

Some of the work - particularly the mechanism design/game theory stuff - was relevant to market allocation too of course. But some of the most interesting applications have been non-market applications.

This is critical work and in a lot of ways it's a lot tougher to understand than market allocation. With markets we have two quantifiable things we're looking at: prices and quantities. Two unknowns, with two sides of the market (suppliers and demanders) means that we can pin down our answer. It's not so easy with non-market allocation in a lot of cases. Sometimes we find that the tools of the science of market activity (constrained optimization for example) works well for these questions too. Sometimes we have to come up with new answers to the question.

1 comment:

  1. Out of curiosity Daniel Kuehn...can the work of Daniel Ellsberg be put into this category, or no?


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