NOBEL PRIZE IN ECONOMICS 2007

This year's Nobel prize in economics jointly goes to Leonid Hurwicz of the University of Minnesota, Eric S. Maskin of the Princeton's Institute for Advanced Study and Roger B. Myerson of the University of Chicago, for having laid the foundations of mechanism design theory, as released by the Royal Swedish Academy of Sciences (link).

Adam Smith's invisible hand refers to how market mechanism ensure an efficient allocation of resources under ample conditions. In pratice, those conditions are distanced from the ideal. Competition is not completely free as there exist oligopolistic, imperfect and monopolistic type of competition.

Among four basic definitive principles of perfect competition, there is an assumption that consumers initialize perfect information about the anticipation of the market. Consumption and production may generate externalities, a positive influence on by-standers. However, many transaction do not actually occur in the open market but in the depth of the microeconomic transactions between firms or in particular exchange agreements between individuals, interest groups (link).

In addition, transactions also occur as an institutional phenomena. The question is not if such transactions are equitable but whether such allocation mechanisms function optimally. The subsequent question is also what is actually the optimal mechanism in going for a certain goal whether it be a goal related to welfare or/and profit maximization. In fact, contemporary economic theory is based on extremal theory of utility and profit maximization.

As in the upgrading of the circular-flow of the economic cycle, there is also the role of government regulation and the question, under which conditions, government regulation is supportive to achieving concrete goals and objectives. From the basic point of view, governments can sometimes improve the economic well-being and welfare nevertheless. For example, government anti-trust and anti-monopoly policies can benefit the overall economic well-being through the enforcement of competitive law as a way towards making welfare deliverable.

However, it is an absurd idea that government should own enterprises due to the fact that the scale of externalities is rare and hardly attainable on the locus of benefits and advantages of the private sector as markets are usually a good way of organizing the economic activity. The issues regarding the efficiency of allocation mechanisms are difficult to tackle mostly due to asymmetric information among market actors.

The fact, that information about individual preferences of particular choice and availible inputs (such as technology) may be dispersed and the fact that information about the individual interest is delivered asymmetrically and through random variables, is probably the core of the theory of allocation mechanism.

This year's Nobel winning economists succinctly initiated and further developed a theory of mechanism design. Enhanced by the laws of complexitiy, optimal allocation mechanism cannot be stated on the typical view from government's perspective, assuming that market failures occur frequently and, further, thus government distortion of market and exchange is non-peculiar.

Contrary to popular assertions, mechanism design theory distinguishes situations in which markets work well and in which they don't, judging the validity of allocation resource mechanism regarding the private information and individual incentives to fluctuations in the market accountably.

In practice, mechanism design theory is a great tool of assistance in experimenting various different mechanisms of trade and multiple exchange, schemes of sound regulation and deregulation. The theory is also applicable in the field of political science as it may upgrade voting procedures to perform efficiently with the supportive role of the economic theory in the process respectively.