Economics, Experimental

BIBLIOGRAPHY

For generations economics was a nonlaboratory science. Economists could construct theories and analyze naturally occurring data, but the luxuries of control and replication were elusive. The discipline of experimental economics has challenged and changed this perception. Experimental economics provides for a variety of modes of scientific inquiry through the creation of small-scale but real laboratory economic systems. Most experimental economics research has dealt with microeconomic problems, but there is a growing body of work with a more macroeconomic flavor.

Experimental economics got its start in the 1950s and was fully credentialed when Vernon L. Smith was awarded half of the 2002 Nobel Prize in Economic Science. In the Nobel citation Smith is recognized as the father of experimental economics, in the sense that he “made the most important early contributions, but he also remains a key figure in the field to date.” However, as with any scientific advance, there are other pioneering streams that feed into the final river. One universally recognized starting point for experimental economics was the effort by Harvard economist Edward H. Chamberlin (1866–1967) to demonstrate to his students the poor predictive theory of perfectly competitive market models. Chamberlin assigned each student a hypothetical “cost” or “value” and encouraged them to make profitable trades through a random meeting process. Chamberlin’s major insight was to argue that if the hypothetical costs and values were valid representations, then supply and demand curves could be computed for the minieconomy. Chamberlin’s result was that the markets failed to converge to the perfectly competitive predictions.

A few years later Smith, a young Harvard Ph.D. then on the faculty at Purdue, decided to try an exercise similar to Chamberlin’s, but with some critical changes. First, Smith conducted the markets with an institution, the double oral auction, which is an analog of the trading process on the New York Stock Exchange. The double auction has information and price progression features different from the Chamberlin exercise. Second, the markets were repeated. Third (and somewhat later), the individual costs and values were made salient by making real payments to the market participants. Under these conditions the markets converged robustly to the competitive outcomes. The Journal of Political Economy published Smith’s results in 1962, and experimental economics as it is most widely known today was born. Smith published his major methodology treatise on experimental economics in 1982. As delineated by Smith, the elements of an induced economic environment (essentially the conditions of supply and demand) and of a carefully defined economic institution are the core of any economics experiment. This holds true even when the institutions look less like regular markets and more like voting rules or bargaining processes (Fiorina and Plott 1978). Paired with this, the 1982 article also discussed experimental design conditions sufficient to produce a valid, controlled economics experiment.

Meanwhile, at about the same time as Smith’s earliest work, others were making seminal contributions. James W. Friedman (1967), Lawrence E. Fouraker and Sidney Siegel (1963), and Heinz Sauermann and Reinhard Selten (1959) were similarly pioneering, although all were more oriented toward oligopoly and bargaining. Selten in particular continued to pursue experimental research and was a Nobel laureate for his theoretical contributions in the first game theory year of 1994.

When Smith visited the California Institute of Technology (Caltech) in the late 1970s, he met a former Purdue colleague on the Caltech faculty, Charles R. Plott, who had also become a fan of experimental methodology. Smith and Plott began a highly productive collaboration, and Plott also staked out crucial methodological advances for using experimental economics in regulatory and public policy analyses. For example, when the government proposed altering the way that the pricing of inland barge transportation was regulated, Plott and James T. Hong (1982) used experimental markets to evaluate the change. Experimental economics has been used as an evaluative public policy tool in areas as disparate as airport “slot” auctions, markets for pollution permits, water auctions, and antitrust issues. Another 1970s’ stream of experimental economics was the work at Texas A&M of Raymond C. Battalio and John H. Kagel (often with Leonard Green 1981) in designing small experimental economics environments for animal economies.

The growth in the number of experimental researchers naturally led to the organization of professional societies; for example, in Germany there is the Society for Experimental Economics Research, and in the United States there is the Economic Science Association. Both sponsor activities with a worldwide audience. A basic undergraduate textbook in the area is available from Douglas D. Davis and Charles A. Holt (1993).

SEE ALSO Arrow-Debreu Model; Economics; Knowledge, Diffusion of; Microeconomics; Natural Experiments; Nonparametric Regression; Positive Social Science

BIBLIOGRAPHY

Battalio, Raymond C., Leonard Green, and John H. Kagel. 1981. Income-Leisure Tradeoffs of Animal Workers. The American Economic Review 71 (4): 621–632.

Chamberlin, Edward H. 1948. An Experimental Imperfect Market. Journal of Political Economy 56 (2): 95–108.

Davis, Douglas D., and Charles A. Holt. 1993. Experimental Economics. Princeton, NJ: Princeton University Press.

Fiorina, Morris P., and Charles R. Plott. 1978. Committee Decisions under Majority Rule: An Experimental Study. The American Political Science Review 72: 575–598.

Fouraker, Lawrence E., and Sidney Siegel. 1963. Bargaining Behavior. New York: McGraw-Hill.

Friedman, James W. 1967. An Experimental Study of Cooperative Duopoly. Econometrica 35: 379–397.

Hong, James T., and Charles R. Plott. 1982. Rate Filing Policies for Inland Water Transportation: An Experimental Approach. Bell Journal of Economics 13: 1–19.

Sauermann, Heinz, and Reinhard Selten. 1959. Ein Oligopolexperiment. Zeitschrift für die gesamte Staatsswissenschaft 115: 427–471.

Smith, Vernon L. 1962. An Experimental Study of Competitive Market Behavior. Journal of Political Economy 70 (2): 111–137.

Smith, Vernon L. 1982. Microeconomics Systems as an Experimental Science. American Economic Review 72 (8): 923–955.

Robert Mark Isaac