Wednesday, July 17, 2019

IV Middlesex University Summer Experimental Economics Workshop

Earlier this month me and some of my colleagues here at Middlesex University organized the fourth annual Summer Experimental Economics Workshop. The set-up didn't differ much from previous editions: we invited Year 12 students from schools around London and Hertfordshire, ordered enough pastries and juice and spent two mornings playing a number of experimental economic games. In total about 80 students from 9 schools took part this year.

I like using classroom experiments in my regular teaching as well. An obvious reason to this is because, as a behavioural economist, it is a fun and interesting way to show various irrationalities and errors in the standard economic decision making theories. And I still use them to do that. Most of these workshops I start out with a (Keynesian) Beauty Contest where there is a clear theoretically correct answer that in practice never is the winning strategy, because it depends strongly on all the decision makers in the game knowing that this is the theoretically correct answer (and in turn knowing that every one else knows etc.).

But over the years I've become more and more convinced that classroom experiments are even more interesting to do, in a sense, the exact opposite. Many fundamental (micro)economic concepts may seem clear and obvious, especially to us professional economists, when explained in a textbook or a lecture but can be counterintuitive to students. I like to think that playing the role of a decision-maker in such a situation and experiencing the trade-offs and incentives and uncertainties, is much more insightful and leads to better comprehension of the underlying ideas.

My favourite example of this is the simple competitive market equilibrium. You can explain how this is supposed to work by drawing a demand and a supply function on the board, maybe create a little bit of a background story, and then it is fairly easy to show that in a well-functioning market the equilibrium price and quantity will be there where the two lines cross. My belief is that by creating a simple induced value market and putting students in the shoes of one of the participants and have them try to maximize their profits, they will gain a better understanding of the reasons and mechanisms behind why the equilibrium is the equilibrium.

This is probably especially so for cases where asymmetric information plays a role. Again, these are fairly easily explained, but always from a outsider perspective. The actual experience of a situation where your optimal decision depends on you knowing something that the person you're interacting doesn't know (or the other way around) I think is much more interesting. So one of the other games I usually do in workshops like these is a version of George Akerlof's Lemons Market. Holt and Sherman (1999)'s design (pdf) works very well in my experience. It consists of two stages. First as a market with full information, where you can show that, within a couple of rounds, the market manages to find the equilibrium price(s). And subsequently as a market with asymmetric information where, in principle, the same benefits of trade are available as before but won't be generated because the sellers can only sell the lowest grade products because they can't convince the buyers to pay a high enough price for their higher quality products.

I like to think that in particular on a beginner level this second approach of taking active part in the economic situation and experiencing the forces and incentives that make the equilibrium become the equilibrium is very useful for getting to understand economics. And also not necessarily less fun than the games designed to make the students aware of their irrational behaviour. But you often need to have more than a basic knowledge of economic theory to understand why something is irrational. In these workshops I like to mix these two approaches up a bit - the third game this time was a Common Value Sealed Bid Auction where there was a lot of overbidding as expected - and that always seems to work out pretty well.

(Photos by Praveen Kujal)

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