Knowledge that Transforms

We present a model in which the microstructure of trade in a commodity or asset is endogenously determined. Producers and consumers of a commodity (or buyers and sellers of an asset) who wish to trade can choose between two competing types of intermediaries: “middlemen” (dealer/brokers) and “market makers” (specialists). Market makers post publicly observable bid and ask prices, whereas the prices quoted by different middlemen are private information that can be obtained only through a costly search process. We consider an initial equilibrium with which there are no market makers but there is free entry of middlemen with heterogeneous transactions costs. We characterize conditions under which entry of a single market maker can be profitable even though it is common knowledge that all surviving middlemen will undercut the market maker’s publicly posted bid and ask prices in the postentry equilibrium. The market maker’s entry induces the surviving middlemen to reduce their bid‐ask spreads, and as a result, all producers and consumers who choose to participate in the market enjoy a strict increase in their expected gains from trade. When there is free entry into market making and search and transactions costs tend to zero, bid‐ask spreads of all market makers and middlemen are forced to zero, and a fully efficient Walrasian equilibrium outcome emerges.

We show that a theory of earnings and wealth inequality, based on the optimal choices of ex ante identical households that face uninsured idiosyncratic shocks to their endowments of efficiency labor units, accounts for the U.S. earnings and wealth inequality almost exactly.

Among the most important changes brought about by the Personal Responsibility and Work Opportunity Reconciliation Act of 1996 are time limits, which provide consumers with an incentive to conserve their welfare benefits for future use. Among forward‐looking, expected‐utility‐maximizing consumers who face liquidity constraints and earnings uncertainty, economic theory predicts that the incentive to conserve should be strongest among families with the youngest children. We test this prediction using data from Florida’s Family Transition Program, a randomized welfare reform experiment. Our estimates generally exhibit the predicted age dependence, which suggests that time limits affect welfare use before they become binding. Our estimates indicate that, in the absence of other reforms that increased welfare use, FTP’s time limit would have reduced welfare receipt by 16 percent.

Much of our understanding of corporations builds on the idea that managers, when they are not closely monitored, will pursue goals that are not in shareholders' interests. But what goals would managers pursue? This paper uses variation in corporate governance generated by state adoption of antitakeover laws to empirically map out managerial preferences. We use plant-level data and exploit a unique feature of corporate law that allows us to deal with possible biases associated with the timing of the laws. We find that when managers are insulated from takeovers, worker wages (especially those of white-collar workers) rise. The destruction of old plants falls, but the creation of new plants also falls. Finally, overall productivity and profitability decline in response to these laws. Our results suggest that active empire building may not be the norm and that managers may instead prefer to enjoy the quiet life.

The model concerns a searcher making multiple searches from the same distribution of payoffs. The searcher does not know the distribution, does not attempt to infer it from cumulating information, and does not attempt to compute an optimal stopping rule. Instead the searcher follows thoroughly elementary adaptive rules. Nonetheless, the searcher converges to optimal stopping.

Consider a world of traders separated in geographic, economic, or social space. Honest trade offers larger gains for more distant traders, but frequencies of meetings, and information flows about cheating, have local bias. Honesty is self-enforcing only between pairs of sufficiently close neighbors. Global honesty prevails only in a sufficiently small world. The extent of self-enforcing honesty is likely to decrease when the world expands beyond this size. Costly external enforcement is useful only if the world is sufficiently large, and its net payoff need not be larger than that of a self-governing small community. Intermediate-size worlds fare worst.

We investigate the creation and evolution of conventions of behavior in “intergenerational games” or games in which a sequence of nonoverlapping “generations” of players play a stage game for a finite number of periods and are then replaced by other agents who continue the game in their role for an identical length of time. Players in generation t can offer advice to their successors in generation t+1. What we find is that word‐of‐mouth social learning (in the form of advice from laboratory “parents” to laboratory “children”) can be a strong force in the creation of social conventions.

With minimal sleight of hand, it is possible to transform the recent growth experience of the People's Republic of China from the extraordinary into the mundane. Systematic understatement of inflation by enterprises accounts for 2.5 percent growth per year in the nonagricultural economy during the first two decades of the reform period (197898). The usual suspects (i.e., rising participation rates, improvements in educational attainment, and the transfer of labor out of agriculture) account for most of the remainder. The productivity performance of the nonagricultural economy during the reform period is respectable but not outstanding. To the degree that the reforms have improved efficiency, these gains may lie principally in agriculture.

We consider a simple model of competition under moral hazard with constant return technologies. We consider preferences that are not separable in effort: marginal utility of income is assumed to increase with leisure, especially for high income levels. We show that, in this context, Bertrand competition may result in positive equilibrium profit. This result holds for purely idiosyncratic shocks when only deterministic contracts are considered and extends to unrestricted contract spaces in the presence of aggregate uncertainty. Finally, these findings have important consequences on the definition of an equilibrium. We show that, in this context, a Walrasian general equilibrium à la Prescott‐Townsend may fail to exist: any “equilibrium” must involve rationing.

Bureaucracies tend to be used when consumers cannot be trusted to choose outcomes efficiently. But a primary means of bureaucratic oversight is consumer complaints. But this can give bureaucrats an incentive to inefficiently accede to consumer demands to avoid a complaint. I show that when this incentive is important, bureaucracies (efficiently) respond by (i) ignoring legitimate consumer complaints, (ii) monitoring more in situations in which it is not needed, (iii) delaying decision making “too long,” and (iv) biasing oversight against consumers. I also show that bureaucracies are used only when consumers cannot be trusted. As a result, observed bureaucracies are always inefficient.