By Professor David Zilberman
I got a kick out of learning that Eleanor Ostrom and Berkeley’s Oliver Williamson won the Nobel in Economics. I had a similar response when the Psychologist, Dan Kahneman, won the prize. These are important steps in the expansion of economics and establishing an integrated social science based on rigorous logical thinking and empiricism. This integrated new social science will provide insight on how people think and interact and how to improve the human condition.
It is useful to contrast the evolution of economics and biology. Research in the biological sciences first identifies and documents various organisms and only later develops a general theory, Darwinian evolution theory, that explains how species interact and evolve. In economics, Adam Smith developed a theory first. For years, economists considered only two institutions: the firm and the government. But, we know that not all firms are alike and that there are many other organizations that are neither government nor firms. Political scientists and sociologists are very good in identifying different types of organizations and Williamson and Ostrom marry the organizational complexity with basic behavioral principles that are emphasized in economics.
Williamson’s work is based on the realization that different firms have different types of physiology (structure) and transactions occur in many ways outside of the market. These organizational structures are reflective of diverse product characteristics, market situations, technologies, and consumer preference, etc. His work suggests that economic research shouldn’t strive only to explain choices of prices, quantity, and product quality, but more than that. It should aim to explain institutional design and evolution of different types of organizations. Furthermore, good policymaking and effective legal structures require balancing the desire for simplicity with capacity to address the multitude of considerations that lead to the diverse institutional outcomes that we see in everyday life.
Ostrom’s work made the notion of governance operational. It doesn’t only apply to states, but also to communities, which are creative in their design of institutions to manage and sustainably utilize community assets. So, traditional organizations that have been sustained over time, managing water resources or forests, are not arbitrary, but reflect social optimization that has to be comprehended and any institutional reform has to be based on the understanding of why things are the way they are in the first place. Ostrom’s research suggests that reforms based on good intentions, but with ignorance of institutional setup may push things backwards. Policy makers need to understand not only natural forces, but also social processes in order to make changes that would be for the better.
Many of Williamson’s insights came from his understanding and appreciation of legal institutions. Ostrom is first and foremost a political scientist. But they established a two-way road, exporting economics to legal studies and political science. Coming back to Kahneman, his work started bridging economics and psychology, explaining some behavioral patterns that perplexed economists by developing behavioral rules that are more appropriate to bumbling human beings than to the uber-rational economic man and ushering in the new field of behavioral economics. Economics, as a result of these influences, has become richer and sometimes overwhelming, but more realistic. We realize that in spite of our scientific progress we are in the beginning and have a long way to go before we are able to explain effectively social systems. At the same time, we are encouraged that the vantage points of different disciplines start to converge and we may, one day, reach an integrated narrative that will allow us to make better sense of society and people.
Best wishes to Williamson and Ostrom. This selection of the Nobel committee was well deserved and by making this bold choice, the committee enriches economics and makes it more exciting and relevant.