Vernon Smith
Bio
Vernon Lomax Smith is regarded as one of the leading experimental economists in the world today. Smith was born in Wichita, Kansas, on January 1, 1927. Today, Smith is a professor of economics at George Mason University, a research scholar at George Mason's Interdisciplinary Center for Economic Science, and a Fellow of the Mercatus Center, all in Arlington, Virginia. One of Smith's finest accomplishments came in 2002, when he shared the Nobel Memorial Prize in Economics when he was a research professor at the University of Arizona. However, Smith's interest in experimental economics began when he was starting out as a professor at Purdue University's Krannet School of Economics. Over the years, Smith pioneered, along with other collaborators, the use of controlled laboratory experiments in economics, and established it as a legitimate tool in economics and other related fields. [7]
General Philosphy
Smith’s work tends to reinforce the more traditional analysis of the market process. Markets are viewed in a way that similar to that of Jenkin’s diagram. There is a major emphasis on mutually beneficial effects of exchange. In market competition, there tend to be large number agents and if they can be reduced, there is no power on one side. It is then that the exchanges between two people can be explained by perfect negotiating. The exchanges are not endogenous or constitutive to the exchange process but given exogenously.
Market Games
When Smith began teaching at Purdue University, one of his first research projects he conducted dealt primarily with economic experiments on the convergence of prices and quantities to their theoretical competitive equilibrium values in experimental markets. Smith studied the behavior of "buyers" and "sellers", who are told how much they "value" a false commodity, and then are asked to competitively bid or ask on these commodities following the rules of various real world market institutions, such as allowing both sides in the market to bid, a situation used in many stock exchanges. Smith found that in some forms of centralized trading, prices and quantities traded in such markets converge on the values that would be predicted by the economic theory of perfect competition. However, in Smith’s experiment, there were only a small number of competitors and there was no access to perfect information.
Social Preferences
The term social preference refers to the concern (or lack thereof) that people have for each other's well-being, and it encompasses maximizing one's benefit, spitefulness, tastes for equality, and tastes for reciprocity (Fehr covers this reciprocity in depth). These preferences became particularly interesting to Smith because they played a major factor in his market game. In his controlled experiments, he often strayed far from market perfection and focused at times focused on the individual’s decision with minimum market influence. He would run a market experiment that would give the students an opportunity to experience an actual market, and me the opportunity to observe one in which I knew, but they did not know what were the alleged driving conditions of supply and demand in that market. Along with the market game, Smith ran several other “games” in which he would test the market by focusing on the individual. Experiments on social preferences generally study economic games including the dictator game, the ultimatum game, the trust game, and the public goods game.
Ultimatum and Dictator Games
The first ultimatum game was developed as a stylized representation of negotiation by Güth, Werner, Schmittberger, and Schwarze. It has since become the most popular of the standard experiments in economics. The ultimatum game is an experimental economics game in which two parties interact anonymously and only once, so reciprocation is not an issue. The first player proposes how to divide a sum of money with the second party. [8] If the second player rejects this division, neither gets anything. If the second accepts, the first gets his demand and the second gets what is left. More often then not, when people's offers are considered fair (e.g., 50:50) it is accepted. If an offer is less than 20%, then it is are rejected becuase people feel as though the offer is undervalued. [8] These results are taken to be evidence against the Homo economicus model of individual decisions. Since an individual who rejects a positive offer is choosing to get nothing rather than something, individuals must not be acting solely to maximize his economic gain.[8]
The dictator game is very much like the ultimatum game. Experimental results in the dictator game have often been cited as a conclusive rebuttal of the rationally self-interested individual model of economic behavior. In the dictator game, the first player determines an allocation of some endowment (such as a cash prize). The second player simply receives the remainder of the endowment not allocated by the first person to himself. The second player’s role is entirely passive; there is no strategic input into the outcome of the game for him. As a result, the dictator game is not formally a game at all but rather an outcome on one person’s decision or actions. [5] The main controversy which some economists disagree over is that the dictator game is more a of a decision theory process rather than a game theory. However, experiments have shown that people tend of offer some fraction of a given commodity to the second player, which would lead one to conclude that the first player's utility function includes the benefits of others. [5
Smith’s main complaint against using ultimatum and dictator games is that one can not assume that subjects of an experiment do not behave as if the world is completely defined by the experimenter. Both the past and future beliefs of the subjects are extremely important. A subject will make decisions based upon their past experiences or their ongoing social interactions with concerns that their decisions will have post-experimentation consequences or that they may be judged by their decisions.
Game Theory
Vernon Smith believes that game theory cannot advance separate from experimental economics. Game theory has a “predictive value” meaning that there are theories of games where you can predict what the outcome will be. But experimental economics goes further and actually tests these theories on real people. [4] This is “operationally.” Subjects gain knowledge by experience, and this is why Smith believes that game theory will not advance. People need to understand the process by which things happen and this can only be done through experimental.
