5 reasons why Nobel Prizes in economics matter in tech

In case you missed it, Professors Paul Milgrom and Robert Wilson received the 2020 Nobel Prize in economics for their work on auction theory, which is used extensively in tech. Auction theory may not sound like much to some people: How hard can it be to ask people to bid on something?

Professors Robert B. Wilson and Paul R. Milgrom of Stanford University discuss winning the 2020 Nobel Prize for Economics on Oct. 12, 2020, in Stanford, California, via Reuters

It turns out that auctions are quite hard to do well. A
poorly designed auction for radio spectrum almost drove British Telecom
(BT) out
of business
. According to US government officials, bidders for radio
spectrum in the US were able to collude because of how an auction was
designed. And almost every time someone loads a page in an internet browser,
companies like Google run auctions to
determine whose advertisements they will see. If these auctions work poorly,
users are irritated by irrelevant ads, and advertisers quit buying ad space.

Here are five Nobel Prizes in economics whose winners matter greatly
to tech.

Paul Milgrom and
Robert Wilson (2020)

Milgrom and Wilson analyzed the winner’s curse, which was
BT’s problem. BT overpaid for a spectrum license, and the financial burden
nearly did the company in. The fear of such situations leads bidders to
underbid. Wilson’s work helps the Federal Communications Commission (FCC)
develop auctions that reduce the likelihood of the winner’s curse.

They also analyzed auctions in which bidders watch each
other to try and figure out what the items for sale are really worth and
auctions where a bidder’s value of one item depends on whether the bidder buys other
items in the same auction. Their solutions to these problems enabled the FCC to
design its radio-spectrum auctions and its incentive auction in which the
agency effectively bought radio spectrum from broadcasters, repackaged the
airwaves, and then auctioned the new spectrum blocks to cellular companies. It
was somewhat like buying bits of furniture at several auctions, bundling the
pieces into sets, and then auctioning off the bundles in the hope that each
bundle fits someone’s dream home decor. Very risky, but it was wildly
successful.

Oliver Hart and Bengt
Holmström (2016)

Hart and Holmström wrote about the economics of contracts.
Their work supported the FCC’s adoption of price cap regulation for telecom
companies. This system of regulation allowed companies to benefit if they
improved efficiency as long as they shared some of the benefit with customers.
Together, these economists explained that contracts and regulations cannot
cover all contingencies, so it is better to have broad metrics for performance
than narrow, specific measures. In addition, Hart’s work showed that vertical
integration can be quite useful when changing circumstances make it hard to
write contracts.

Jean Tirole (2014)

Tirole explained how regulation can be applied to situations
where a firm faces weak competition and when firms know more than their
regulators. His ideas heavily influence antitrust and how the FCC regulated
incumbent telecom companies as competition emerged. Prior to Tirole’s work,
regulation research focused on an incomplete dichotomy of monopolies versus
perfect competition. In addition to his prize-winning work, he established the
basic economic model for how tech platforms such as Facebook and Google work.

James A. Mirrlees and
William Vickrey (1996)

Like Tirole, Mirrlees and Vickery addressed situations in
which people can hide information. They described how to design economic
incentives that encourage truthfulness. Ever wonder how companies design
pricing options for products? How Tirole knew what regulations would work when
companies have market power and can hide information? Or how Hart, Holmström,
Milgrom, and Wilson could design incentives or auctions that ensure the best
companies win? They all used Mirrlees’ and Vickrey’s theories.

George Stigler (1982)

Stigler performed “seminal studies of industrial structures, functioning of markets, and causes and effects of public regulation.” Among the many ideas he developed is that there is a market for regulation. He showed that many industries seek regulation to obtain government protections from competition. Ever wonder why studies find that more regulation results in larger firms and in fewer large firms losing out to upstart rivals? Stigler explained that the large firms seek competition-stopping regulations, and government officials are more than happy to comply, even while arguing that they are pursuing the public interest.

I have left out many Nobel-winning economists who have also
made huge impacts. Ronald Coase (1991) introduced the idea of radio-spectrum
auctions but won his prize for something else. Milton Friedman (1976) never
tired of explaining the value of economic freedom but won his prize for
monetary policy. John Nash (1994) developed a method for solving complex
economic games, and his solution is used in just about every antitrust and
regulatory theory in use today. Who knew this dismal science could be so
useful?

(Disclosure statement: Mark Jamison provided consulting for Google in 2012 regarding whether Google should be considered a public utility.)

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