Sunday, October 17, 2010

What The 2010 Nobel Prize Winners Studied

The winners were Peter Diamond, Dale Mortensen, and Christopher Pissarides. See Markets with search costs. That is the announcement from the Nobel Prize committee. The very short reason why they won was "for their analysis of markets with search frictions." My macro students should recall discussing "frictional" unemployment a few weeks ago. There is more information at Markets with search costs (yes, it is the same title as above but it provides different information). Here is an exerpt:

"Why are so many people unemployed at the same time that there are a large number of job openings? How can economic policy affect unemployment? This year’s Laureates have developed a theory which can be used to answer these questions. This theory is also applicable to markets other than the labor market.

According to a classical view of the market, buyers and sellers find one another immediately, without cost, and have perfect information about the prices of all goods and services. Prices are determined so that supply equals demand; there are no supply or demand surpluses and all resources are fully utilized.

But this is not what happens in the real world. High costs are often associated with buyers’ difficulties in finding sellers, and vice versa. Even after they have located one another, the goods in question might not correspond to the buyers’ requirements. A buyer might regard a seller’s price as too high, or a seller might consider a buyer’s bid to be too low. Then no transaction will take place and both parties will continue to search elsewhere. In other words, the process of finding the right outcome is not without frictions. Such is the case, for example, on the labor market and the housing market, where searching and finding are essential features and where trade is characterized by pairwise matching of buyers and sellers.

This year’s Laureates have enhanced our understanding of search markets. Peter Diamond has made significant contributions to the fundamental theory of such markets, while Dale Mortensen and Christopher Pissarides have further developed search theory and made it applicable to analysis of the labor market. The three laureates’ achievements help us to comprehend a number of important economic questions in general, and the determinants and development of unemployment in particular.

The basic idea in search theory is that participants in a market look for cooperative partners in order to implement joint projects. This may involve simple cases of a buyer and a seller of a product, as well as more complex relations between employers and job seekers or between firms and their suppliers.

As usual in the case of basic research, there are many conceivable areas of application. The housing market, for instance, is a clear-cut parallel to the labor market in that both the number of vacancies and the time it takes to sell a home vary over time. Search theory has also been used to study issues in monetary theory, public economics, regional economics and family economics."

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