Opinion Reading Tirole

This has been an oddly good year for French economists. The English translation of Thomas Piketty’s Capital in the Twenty-First Century became an instant classic when it was released in April. And now, Jean Tirole, professor at the Toulouse School of Economics — at the very least, students of the dismal science would be familiar with his book on industrial organisation, required reading for undergraduates — has been awarded the Nobel prize for economics for “his analysis of market power and regulation”. Most free-market cheerleaders base their advocacy on the assumption of perfectly competitive markets. But the invisible hand can’t function if an individual firm enjoys market power — the ability to affect prices. In such an instance, a case for intervention could be made. But the regulator is also hamstrung by poor and asymmetric information. This is where Tirole comes in. By deploying game theory and mechanism design, Tirole rigorously formalised several propositions about oligopolies and government contracting.

There is no easy way to summarise the magisterial breadth of his work — look back at the last year of news, and it is possible to see a series of debates in which Tirole’s voice can’t be ignored. Take, for instance, the case of a regulator not knowing a firm’s true marginal cost of production but needing to set prices. Or, a contractor wanting government to renegotiate terms halfway through by reporting a holdup due to cost escalation. In both these cases, Tirole showed that optimal government contracts might need to leave some fat on the bone for firms in order to incentivise them to comply.

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Given the scale of Tirole’s impact on economic theory and government policy, this recognition comes not a moment too soon. Especially in India, we could do with reading some more Tirole.