The 2020 Nobel Prize for Economics

American economists Paul R. Milgrom and Robert B. Wilson, both of whom teach at Stanford University, have been awarded the 2020 economics Nobel Prize – for improvements to auction theory and inventions of new auction formats. Wilson shared the prize for developing a theory that clubs together auction items with similar value. The theory explained why bidders will offer less than they think the object or service is worth because they are afraid of overpaying — which he dubbed 'the winner’s curse'. Prof Milgrom was awarded half the prize for his contributions in understanding how private auction values vary from bidder to bidder in an auction.

Auction theory is a branch of economics that deals with, as the name suggests, auctions. Auctions are important to economists because they are the most widely used and also the most efficient mechanism to allocate scarce resources. The allocation of scarce resources, in turn, matters to economists because there is a limited supply of resources on earth when compared to unlimited human needs, and hence they need to be allocated only to the most urgent needs of society. In particular, auction theory deals with the various ways in which auctions can be designed to improve seller revenues, increase benefits to consumers, or even achieve both these goals at the same time. The most common one is that auctions can lead buyers to overpay for resources whose value is uncertain to them. This criticism, popularly known as the ‘winner’s curse’, is based on a study that showed how buyers who overpaid for U.S. oil leases in the 1970s earned low returns. Dr. Wilson was the first to study this matter. He found that rational bidders may decide to underpay for resources in order to avoid the ‘winner’s curse’, and argued that sellers can get better bids for their goods if they share more information about it with potential buyers.

Wilson and Milgrom invented new formats for auctioning off many interrelated objects simultaneously, on behalf of a seller motivated by the broader societal benefit of the item rather than making the most money out of its sale. The pair has studied and revealed the outcomes of different rules for bidding and final prices – known as the auction format. Organizational theories around the auction process have prompted new formats for auctioning off related objects at the same time. Dr. Milgrom and Dr. Wilson, however, are most popular for their contribution towards devising new, real-world auction formats. The combinatorial auctions designed by the duo, for instance, have been used to sell complex goods such as spectrum as bundles, instead of as individual units. “They haven’t just profoundly changed the way we understand auctions — they have changed how things are auctioned,” said Alvin E. Roth, a Nobel laureate himself who was one of Mr. Wilson’s doctoral students. “The two of them are some of the greatest theorists living in economics today.”

Mr. Milgrom came up with a theory to deal with that mix of common and private value, and he examined how the “winner’s curse” plays out in such instances. He found that people underbid by less in so-called English auctions, in which prices start low and are raised, than in Dutch auctions, where they start high and are reduced. Yet the pair’s “best-known contribution,” according to the committee, is their work in designing new auction formats for complex situations, including the format that governments now use to allocate radio frequencies to telecom operators.

Dr. Milgrom and Dr. Wilson, however, are most popular for their contribution towards devising new, real-world auction formats. The combinatorial auctions designed by the duo, for instance, have been used to sell complex goods such as spectrum as bundles, instead of as individual units. The prize committee credited Wilson as “the first to create a framework” for auctions comprising items, such as commodities, with a common value, as opposed to variable private value. Meanwhile, Milgrom’s work focused on how to deal with a mix of common and private value, such as during the purchase of a home when buyers weigh both the personal value they attach to amenities a property possesses as well as the property’s market value. Auctions help to sell a variety of products, including diamonds, minerals and online advertising. They can also take on various characteristics: Objects can have a shared, common value for all bidders (such as commodities like oil) or private values that vary across bidders (like art). Bidders may know exactly what the object’s value is, or they may have imperfect information. Bids can be open, meaning everyone can see them, or closed.

The Milgrom and Wilson approach met with such success that many other countries, including Britain, Canada, and Spain, went on to adopt it. The economists “started out with fundamental theory and later used their results in practical applications, which have spread globally,” Peter Fredriksson, chairman of the prize committee, said in a release accompanying the announcement. “Their discoveries are of great benefit to society.”“Auctions are everywhere and affect our everyday lives. This year’s Economic Sciences Laureates, Paul Milgrom and Robert Wilson, have improved auction theory and invented new auction formats, benefiting sellers, buyers and taxpayers around the world,”


Author: Sukeerthi A

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