An insight into the work of Eric Maskin, Nobel laureate

Posted on the 3rd November 2014 by Shanta, Communications Coordinator

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‘How to Make the Right Decisions without Knowing People’s Preferences’

In anticipation of the Warwick Economics Summit (WES) 2015, we would like to introduce you to the most inspiring speakers from the past years. WES 2014 was honoured to present Eric Maskin, the Nobel Prize laureate for the foundations of Mechanism Design theory, with his speech on ‘How to Make the Right Decisions without Knowing People’s Preferences’.

Maskin's work in Mechanism Design Theory

The Mechanism Design theory is an approach to solving critical problems within the global economy. For instance, it is highly relevant to the recent financial crisis which, in Maskin’s opinion, was caused by excessive leverage along with a lack of coordination. In his interview in the TSEconomist magazine (2013), Maskin argues that the faith of politicians and policy makers in self-regulation of the financial markets is based on poor understanding of economics. He suggests the severe externalities in these markets need to be corrected, in particular through the regulation of leverage in order to achieve financial stability. The difficulty lies in finding credible means of regulating the financial system without knowing the individual objectives of the actors within it.

Mechanism Design theory, instead of demonstrating which outcomes existing social institutions can generate (which is a common approach in Economics), reverses the process and primarily identifies the desired outcome. Afterwards, the theory verifies whether an institution or a mechanism could be created in order to achieve that goal and, if that is possible, describes which form it should take.

The best solution normally differs for various parties; however an equilibrium is still feasible even when a mechanism designer is unaware of the objectives of other actors. Maskin’s speech was extremely inspirational, drawing on the very origins of Mechanism Design with Vickrey’s second-price auction model, which allows the product to be sold to the bidder who places the highest value on it, without the knowledge of the price each bidder is willing to pay. Maskin illustrates the process with the example of the telecom revolution facilitated by governments deciding to privatise the radio-spectrum by selling telecom licenses to private companies.

Looking Ahead

The future of the theory is extremely promising, as Mechanism Design may allow us to find solutions to complicated coordination problems which are both Pareto optimal and individually rational. It could apply to any area where market forces are ineffective at achieving the most desirable social outcome. Maskin’s ideas about Mechanism Design are encouraging as the Nobel Prize laureate predicts that the theory could allow us to combat the most severe of today’s issues, such as global warming. Furthermore, development in this area of economics holds the potential to eradicate coordination problems detrimental to the global economy’s future health.

By Valentina Smirnova, WES 2015 Communications Team Member

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