29.9.03

FUHGEDDABOUT CORE EQUIVALENCE. Knowledge Problem (thanks for the visitors) finds Newsweek coverage of experimental economics. I like this: "In a bout of insomnia one night, Smith concocted a plan to demonstrate this notion by putting his students through a trading game. Buyers were given a maximum price they could pay, and sellers were given a minimum they could demand, for an unspecified good. Classical theory said that with such imperfect knowledge of the market, players could never agree on the best price. To Smith’s shock, the unwitting buyers and sellers agreed on the best price —after a few rounds of bidding. Smith was convinced he’d fouled up and kept running experiments to prove the old assumptions correct. He couldn’t. The field of experimental economics was born." In fact, principles students can figure out this equilibrium fairly fast. Start with an ordinary pack of cards. Retain only the numbered cards (2-10). Shuffle and deal. Inform the holders of red cards that they are buyers who cannot pay more than the number on their cards. The holders of black cards are sellers who must accept at least the number on their cards. Their mission is to find a trading partner with whom they can negotiate a mutually agreeable price. By the second round, the holders of the red 2s and 3s want a redraw, and the holders of the black 9s and 10s realize the comparative advantage fairy has been unkind to them. By the third and fourth round the holders of the red 4s and 5s or black 7s and 8s begin to have similar thoughts.

There is a complete set of instructions for this activity in an issue of the Journal of Economic Perspectives from the early 1990s.

This statement by Vernon Smith's colleague Charles Plott is a good insight into the maturation of economists: "Economists tend to become economists so that they can think about big things, like international trade relations and the global economy. The profession simply wasn’t prepared to think about these simple ideas." Perhaps not at the time, but the lure of the nagging small problems, and the insights gleaned from working them through, contribute greatly to the development of economics.

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