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The social science prize

The Economics Nobel is,in its own way,revolutionary....

Written by Karna Basu |
October 15, 2009 3:12:44 am

The 2009 Nobel Prizes in peace and economics had some features in common. For one,the results of both were completely unanticipated. More significantly,each award was

designed to not just recognise achievement but to also influence the future. Barack Obama’s peace prize makes the most sense when viewed as an attempt to promote peace by rallying world support for this well-intentioned president. 

The committee in charge of the economics prize has tried to

influence events through a different channel. By awarding it to Elinor Ostrom and Oliver Williamson,it has changed the benchmarks by which achievements in economics are measured. While the recipients are no doubt major forces in their fields,the decision has generated some controversy and opposition from the mainstream. 

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This is much less dramatic than the Republican response to Obama’s award. The Nobel Peace Prize has been deemed

irrelevant,just as the United

Nations was a few years ago. It is peculiar that this definition of

irrelevance does not require one to stop obsessing over these institutions,but that is a different matter.  

Economists,on the other hand,do not have the luxury of dismissing the Nobel Prize,since it

remains the focal point of aspirations within the profession. This year,the theme was economic governance,the study of how behaviour is governed within institutions like firms,cooperatives,or even families. Might governance in these institutions be better than in the free market? Clearly,these are timely questions,and Ostrom and Williamson’s careers provide some highly insightful answers. 

Elinor Ostrom,at the political science department of Indiana University,is the first female Nobel laureate in economics. She has demonstrated that the problem of the commons is more nuanced than economists believed. The original problem is the following: when individuals have shared access to a resource,they might overuse it (the actions of rational individuals can lead to inefficient outcomes). For example,self-interested fishermen will fail to account for the fact that killing one fish today eliminates an entire branch of a fish family-tree,which in turn makes life harder for future fishermen. 

Theoretically,efficiency will be restored by privatising or nationalising the resource. But nationalisation can result in other inefficiencies,and privatisation can generate inequitable outcomes. This is where Ostrom’s work comes in. She has found that,in reality,resources are often used more efficiently under collective ownership than under government or private control. People are capable of responding to the problem of the commons by collectively establishing a credible set of internal laws governing use of the resource.  

Oliver Williamson is well-known for his work on governance in firms. If we think of firms and markets as distinct institutions in which goods or information are exchanged,it is natural to ask why trades are sometimes carried out directly through the market and at other times within the structure of a firm. Williamson has argued that one of the answers lies in the

institutions’ different approaches to conflict resolution.  

Markets,by their decentralised nature,are not well-suited to

resolving disagreements. This is particularly so when information is murky. For instance,a programmer and her client might disagree on the appropriate price for a piece of software that is yet to be written. Prolonged conflicts of this nature can lead to significant losses in output. (If programmers and clients start punching each other on the streets of Bangalore,then the 3-hour drive from the airport to the city centre will be the least of an investor’s concerns.) In such environments,firms will be much quicker to resolve conflicts because of their hierarchical structures. Of course,as Williamson points out,these benefits have to be weighed against the disadvantages of a firm,such as the potential for abuse of power.

Given the economic crisis and climate change fears,it is tempting to think that the Nobel Committee’s choices were motivated by the need to remind us that free markets are flawed. This might appear plausible except that the committee has frequently awarded those who have done fundamental work on the shortcomings of free markets — recently including Myerson,Kahneman,Akerlof,and Stiglitz. 

What really makes this year’s prize novel is its implicit approval of non-mathematical methods in economics. In past years,the Nobel Prize has been heavily biased towards abstract theoretical work that is grounded in mathematics. This prize contests the notion that economics is best studied by discarding idiosyncratic cases. Ostrom’s work in particular shows that careful case studies are essential to our understanding of how economic logic can apply in ways that abstract models simply overlook. 

Economists might fear that the Nobel Prize in economics is ultimately going to morph into a more general Nobel Prize for such research into the social sciences. But this might well be good for the field,which has been enriched recently through interactions with neuroscience,psychology and biology. It is time for economics to renew links with its more immediate

academic neighbours.

The writer is associate professor of economics at Hunter College,New York

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