Knowledge that Transforms

Fix finite pure strategy sets S1 , … , Sn , and let S= S1 ×⋯× Sn . In our model of a random game the agents' payoffs are statistically independent, with each agent's payoff uniformly distributed on the unit sphere in R -super-S. For given nonempty T1 ⊂ S1 , … , Tn ⊂ Sn we give a computationally implementable formula for the mean number of Nash equilibria in which each agent i's mixed strategy has support T i . The formula is the product of two expressions. The first is the expected number of totally mixed equilibria for the truncated game obtained by eliminating pure strategies outside the sets T i . The second may be construed as the "probability" that such an equilibrium remains an equilibrium when the strategies in the sets Si ∖ Ti become available. Copyright The Econometric Society 2005.

Alternating-offer and demand bargaining models of legislative bargaining make very different predictions in terms of both ex ante and ex post distribution of payoffs, as well as in the role of the order of play. The experiment shows that actual bargaining behavior is not as sensitive to the different bargaining rules as the theoretical point predictions, whereas the comparative statics are in line with both models. We compare our results to studies that attempt to distinguish between these two approaches using field data, finding strong similarities between the laboratory and field data regardless of the underlying bargaining process. Copyright The Econometric Society 2005.

This paper proposes a model for multilateral contracting, where contracts are written and renegotiated over time, and where contracts may impose externalities on other agents. Equilibria always exist and the equilibrium value function is linear and monotonically increasing on the contracts. If the grand coalition, or contracting among all agents, is inefficient, we show that bargaining delays arise in positive-externality games and equilibrium inefficiency may remain bounded away from zero even as bargaining frictions converge to zero. Otherwise, if the grand coalition is efficient, there are no bargaining delays, convergence to the grand coalition occurs in a finite number of contracting rounds, and the outcome becomes efficient as players become more patient. Copyright The Econometric Society 2005.

We derive a lower bound for the volatility of the permanent component of investors' marginal utility of wealth or, more generally, asset pricing kernels. The bound is based on return properties of long-term zero-coupon bonds, risk-free bonds, and other risky securities. We find the permanent component of the pricing kernel to be very volatile; its volatility is about at least as large as the volatility of the stochastic discount factor. A related measure for the transitory component suggest it to be considerably less important. We also show that, for many cases where the pricing kernel is a function of consumption, innovations to consumption need to have permanent effects.

In many trading environments, any incentive compatible and individually rational market mechanism will be either inefficient or will run a deficit. We prove that as the market size m gets large, for any fixed surplus (or deficit) x, m times the minimal absolute inefficiency converges to c(x) where c(⋅) is essentially a quadratic function of textitx. We introduce a new mechanism, the double auction with a fixed transaction fee. By choosing the size of the fee appropriately, any level of deficit or surplus can be implemented and the resulting mechanisms achieve the above bound. Corollaries include: an asymptotic version of the Myerson–Satterthwaite Impossibility Theorem; a description of the minimal subsidy required to implement the efficient trading rule; a characterization of the minimal inefficiency obtainable with budget-balanced market mechanisms; recommendations on the optimal organization of trade; and insights on the effects of taxation.

We investigate the effect of employer-provided health insurance on job mobility rates and economic welfare using a search, matching, and bargaining framework. In our model, health insurance coverage decisions are made in a cooperative manner that recognizes the productivity effects of health insurance as well as its nonpecuniary value to the employee. The resulting equilibrium is one in which not all employment matches are covered by health insurance, wages at jobs providing health insurance are larger (in a stochastic sense) than those at jobs without health insurance, and workers at jobs with health insurance are less likely to leave those jobs, even after conditioning on the wage rate. We estimate the model using the 1996 panel of the Survey of Income and Program Participation, and find that the employer-provided health insurance system does not lead to any serious inefficiencies in mobility decisions. Copyright The Econometric Society 2005.

Previous work on the denomination structure of currency treats as exogenous the distribution of transactions and the denominations held by people. Here, by way of a matching model, both are endogenous. In the model, trades in pairwise meetings alternate in time with the opportunity to freely choose a portfolio of denominations and there is a trade-off between the benefits of small-denomination money for transacting and the costliness of carrying a large quantity of small-denomination money. For a given denomination structure, a monetary steady state is shown to exist. The model implies that too small denominations are abandoned.

We compare three market structures for monetary economies: bargaining (search equilibrium); price taking (competitive equilibrium); and price posting (competitive search equilibrium). We also extend work on the microfoundations of money by allowing a general matching technology and entry. We study how equilibrium and the effects of policy depend on market structure. Under bargaining, trade and entry are both inefficient, and inflation implies first-order welfare losses. Under price taking, the Friedman rule solves the first inefficiency but not the second, and inflation may actually improve welfare. Under posting, the Friedman rule yields the first best, and inflation implies second-order welfare losses.

In the Self Sufficiency Project (SSP) welfare demonstration, members of a randomly assigned treatment group could receive a subsidy for full-time work. The subsidy was available for 3 years, but only to people who began working full time within 12 months of random assignment. A simple optimizing model suggests that the eligibility rules created an “establishment” incentive to find a job and leave welfare within a year of random assignment, and an “entitlement” incentive to choose work over welfare once eligibility was established. Building on this insight, we develop an econometric model of welfare participation that allows us to separate the two effects and estimate the impact of the earnings subsidy on welfare entry and exit rates among those who achieved eligibility. The combination of the two incentives explains the time profile of the experimental impacts, which peaked 15 months after random assignment and faded relatively quickly. Our findings suggest that about half of the peak impact of SSP was attributable to the establishment incentive. Despite the extra work effort generated by SSP, the program had no lasting impact on wages and little or no long-run effect on welfare participation.

Extensive-form market games typically have a large number of noncompetitive equilibria. In this paper, we argue that the complexity of noncompetitive behavior provides a justification for competitive equilibrium in the sense that if rational agents have an aversion to complexity (at the margin), then maximizing behavior will result in simple behavioral rules and hence in a competitive outcome. For this purpose, we use a class of extensive-form dynamic matching and bargaining games with a finite number of agents. In particular, we consider markets with heterogeneous buyers and sellers and deterministic, exogenous, sequential matching rules, although the results can be extended to other matching processes. If the complexity costs of implementing strategies enter players’ preferences lexicographically with the standard payoff, then every equilibrium strategy profile induces a competitive outcome.