Monday, October 12, 2009

Elinor Ostrom and Oliver E. Williamson Win the Nobel Prize In Economics

"Governance" is the key word in this year's economics announcement.   How do people come up with organizational solutions to problems other than individulalistic market transactions or centrally imposed solutions?  How do they solve issues of collective rights?

The Committee tells us "Economic transactions take place not only in markets, but also within firms, associations, households, and agencies. Whereas economic theory has comprehensively illuminated the virtues and limitations of markets, it has traditionally paid less attention to other institutional arrangements. The research of Elinor Ostrom and Oliver Williamson demonstrates that economic analysis can shed light on most forms of social organization.

"Elinor Ostrom has challenged the conventional wisdom that common property is poorly managed and should be either regulated by central authorities or privatized. Based on numerous studies of user-managed fish stocks, pastures, woods, lakes, and groundwater basins, Ostrom concludes that the outcomes are, more often than not, better than predicted by standard theories. She observes that resource users frequently develop sophisticated mechanisms for decision-making and rule enforcement to handle conflicts of interest, and she characterizes the rules that promote successful outcomes."

Understanding why the firm exists is one of the crucial questions of economics and not one extensively explored in mainstream economics. 

I am fascinated by Ostrom's award.  How people work out collective rights with neither a simple market solution nor government imposing one is a great area of inquiry.  Here we get to the nexus between law and spontaneous order.   What is the relationship between economic regulation and property rights?  When does positive law harm collective decision making? I have some reading to do!

One issue from the financial crisis to which Ostrom and Williamson's work is directly relevant is whether investment banks behave more responsibly as partnerships rather corporations.  Their excessive risktaking seems directly related to their going public.

Speaking of the financial crisis and organizational forms, maybe the committee should give George Benston the Nobel prize posthumously for demonstrating empirically that banks with investment affiliates performed better than those without.  In other words,  Glass Steagall's separation of investment from commercial banking was more about Senator Glass's Anglophilia than economic sense. Glass Steagall left investment banks outside prudential regulation. If the SEC had that responsibility, it is hard to see it in its history. Thanks to the structure set up by Graham Leach Bliley, all the major investment banks are either owned by a commercial bank or have become bank holding companies and are now under the Fed's prudential regulation.

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