Economists like to think of themselves as mathematicians or, if momentarily humbled, as physicists. This year’s winners of the Nobel Prize in economics, however, seem to think of themselves more as engineers. Like Alvin Roth and Lloyd Shapley, who won the award in 2012, Paul Milgrom and Robert B. Wilson are specialists in “market design,” a field that, as Roth wrote in a famous article, demands “an engineering approach. “.
Roth argued that market designers should take bridge builders as their examples: “Engineering is often less elegant than the simple underlying physics, but it allows bridges designed on the same basic model to be built longer and longer. stronger over time, depending on the complexities and how to deal with them is better understood. ”
The bridge that Milgrom and Wilson built was the Federal Communications Commission’s 1994 telecommunications spectrum auction, later called “the largest auction in history.” In its 50th anniversary volume, the National Science Foundation used the $ 7 billion in revenue the auction generated as justification for its years of supporting game theorists. Since then, auctions have become the gold standard for the distribution of all types of natural resources, from exploration permits to mining leases and rail franchises. It is almost assumed that, if designed properly, auctions will strike the ideal balance between efficiency and revenue generation.
But it turns out that economists don’t really work like engineers. The example set by the FCC auction has proven very unhelpful in many ways, especially in emerging markets.
There are many reasons for this. One is built into the very notion of auction design. In much of the early academic literature on auctions, economists attempted to maximize the sum of state revenue and consumer surplus. But setting goals is the job of regulators and politicians, not economists.
Policymakers may have many other considerations, which greatly complicates market design. South Africa had three failed auctions between 2010 and 2017, for example, because regulators sought to engineer them to advance the government’s broader economic inclusion agenda. To general amusement, the government announced last month that it was trying again.
It’s even worse when countries try to maximize just one variable, because for bureaucrats and politicians that variable is usually government revenue. Economists generally do not object because income is easier to measure than consumer utility, which simplifies their job. In India, for example, the government has become addicted to using telecom spectrum revenues to help finance its deficits.
But the more a company pays for spectrum, the lower its profits and the less it has left to invest in new infrastructure. In India, high rates have generated high levels of debt. The government’s constant demands for cash have made telecom providers look for a way out. And spectrum scarcity leads to poor quality service: In 2019, India had 50 times more subscribers per MHz of spectrum than Germany.
The Indians should at least have known this would happen. The country’s telecommunications revolution, which fueled its high-growth years in the 2000s, only took off after the government moved away from auctions and began allocating spectrum to licensees in exchange for a portion of their revenue.
Worse still, for those who imagine that auctions designed to maximize government revenue would at least maximize government revenue: the new system generated twice the fees as auction bids.
And suppose that, to ensure that government revenues were strong, auctions set their reserve price too high, as has happened in Ghana and Bangladesh? Would a poor quality oligopoly or even a monopoly be useful to consumers? Would that benefit the overall economy? Can Milgrom, Wilson, or their successors design an auction model that takes into account the effect on overall economic growth of a cutting-edge and vibrant telecommunications infrastructure? Maybe they can. All I can say for sure is that no one has.
That doesn’t mean they shouldn’t try. This is a well-deserved Nobel Prize, not because the bridge these economists built can be erected over any kind of river, but because it was built in the first place. The real miracle was the transparent, inclusive, and academically informed process that led to its design. He made sure that the specific complexities of that market at that time were clearly reflected in the final auction design.
Market designers cannot give up because they have not been able to replicate that Nobel-worthy success. They need to work harder and think big.
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