The platform era

The economics of digital platforms, including the sharing economy, has become a hot topic – not only among researchers but also with several new books for the non-specialist reader. Yesterday I took part in the Digital Forum organised by the Toulouse School of Economics – home of Nobel Laureate Jean Tirole, one of the first economists to analyse platforms (or two-sided or multi-sided markets). It was a packed event with some fascinating contributions. And on the train to and from Paris, I read Matchmakers by David Evans and Richard Schmalensee. This follows on from Platform Revolution by Geoffrey Parker, Marshall Van Alstyne and Sangeet Paul Choudary (which I reviewed here), and The Sharing Economy by Arun Sundararajan (here).

The Matchmakers: The New Economics of Multisided Platforms Platform Revolution: How Networked Markets are Transforming the Economy–and How to Make Them Work for You

The Sharing Economy: The End of Employment and the Rise of Crowd-Based Capitalism

All three are well worth reading – they all clearly explain the economic characteristics of digital platforms, with lots of examples. Inevitably there is some overlap but in fact the books complement each other nicely and also include different examples. Platform Revolution takes more of a business design perspective, while The Sharing Economy is specifically focused on peer-to-peer markets. Matchmakers has more about the economic analysis and public policy questions including competition – David Evans’ earlier book, a collection of papers, Platform Economics, was quite heavily focussed on the competition issues.

Some of the examples in Matchmakers are very nice. I particularly liked the case of the US trucking industry. There’s also a chapter on M-Pesa, which I know a bit about; it is a nice description of how it worked in Kenya, although I’d have been interested to read about why mobile money platforms have failed in so may unbanked countries – regulatory barriers in my view. One of the questions about platforms’ success or failure is the extent to which they take advantage of opportunities for regulatory arbitrage on the one hand and can be killed by hostile regulation on the other hand.

Marshall Van Alstyne was one of the participants in the Toulouse School of Economics event and gave a great talk including this chart; he and I agreed that there is a huge research agenda on this subject as we’re entering the era of platforms. I have an issues paper out soonish, sketching some of the questions.

Marshall Van Alstyne at the TSE Digital Forum 16/6/2016

Marshall Van Alstyne at the TSE Digital Forum 16/6/2016

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Markets in all their glory

I knew I was going to enjoy The Inner Lives of Markets by Ray Fisman and Tim Sullivan when, early in the book, it mentions the use of Kakutani’s fixed point theorem in the proof of existence of general equilibrium. Not that this should put you off. All of the economics covered in this delightful book (shipping on 9 June in the UK, already shipping in the US) is described clearly and with a lovely lightness of touch.

The Inner Lives of Markets: How People Shape Them – And They Shape Us

As the book explains, “A market is just a technology, a mechanism where participants have the chance to directly affect resource allocation through an expression of their preferences.” They can be organised and run in many ways, and are varyingly effective at that principal task of allocating resources. The book begins (after an introduction featuring the famous Radford paper (pdf) on the economy of a WW2 prisoner of war camp) by explaining the elegant abstraction of general equilibrium theory and the welfare properties of markets. It goes on to the variety of ways in which the welfare properties do not hold, due to asymmetries of information, through the lens of a particular model or approach to modeling.

The first of these is Akerlof’s lemons model of second hand car sales – the adverse selection that can ultimately cause a market to collapse when sellers have more information about the product than buyers. Of course there are markets for second hand cars: devices such as warranties and nice showrooms help compensate for the information asymmetry. The book goes on to Spence’s introduction of signalling in labour and other markets.

There is a nice chapter covering auctions – including online auctions – and how these are evolving. The use of online auctions is decreasing over time; it seems the transactions costs are actually rather high, at least for most buyers. As the chapter observes, prices achieved in online auctions on sites like Ebay are about 10% lower than fixed prices for the same items, so this is rather a high transaction cost. The ‘auction discount’ across markets has grown over time from 3% in 2003 to 15% now. I liked this observation in the book about the scope for using auctions: “This lack of use [in practical applications] of the Vickrey [2nd price] auction was something of a puzzle to economists, who were captivated by the way that, in its elegant simplicity, the mechanism helped magically cure the bidders’ headaches over strategizing and over-paying.” It reminded me of a conversation with a friend who was helping test the auction one regulator had designed for a sale of spectrum licences; she said, “It was great fun. The economists assumed we wouldn’t talk to each other but of course we cheated like anything!”

The book proceeds on to digital platforms, and ends with Roth-style matching markets such as the kidney exchange – the latter a shorter version of Roth’s own excellent book, Who Gets What and Why.

One of the interesting threads through this new book is the strong defence it puts up of the integral role of maths in economics. Critics of economics often, of course, see the mathematization of the subject as one of its big flaws – how can you reduce the complexity of society to a few equations? Equally of course, this is nonsense (even though – as Paul Romer has explained – there is misuse of maths too): the humanities also use ‘models’, but with words rather than symbols – the causes of the First World War? Actor-network theory? And careful statistical inference cannot happen without representing the relationships being tested algebraically. The Inner Lives of Markets goes further, explaining that key insights in understanding and improving the way markets work came about because economists were using mathematics. Akerlof got his ‘lemons’ insight from attending a class on topology. Auction theory and market design similarly depend on sophisticated algorithms.

The  book is an ideal read to introduce students to these areas of economics, and to describe to general readers the power and usefulness of a part of economics not very visible to the public but where substantial progress has occurred during the past 10 or 20 years. (The authors’ previous book, The Org, did the same for industrial organisation.) Digital platforms for example wouldn’t exist without digital technology, but equally wouldn’t exist without the economic technology. The Inner Lives of Markets is a very nice complement to and update of one of my favourite books, John McMillan’s Reinventing the Bazaar. It is clear and readable, with lots of examples of familiar, everyday contexts. It would be terrific if the message gets out that economics is about so much more than the ups and downs of the financial market and the arcana of macroeconomics.

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Better than (Karl) Polanyi

There was some debate on Twitter yesterday about Karl Polanyi’s The Great Transformation. Noah Smith linked to this post reporting some research (can’t say it sounds very rigorous) taken to indicate that economists don’t read this book. Summary finding:

“All in all, 66 persons responded (25 percent). This isn’t at all bad, considering that these were cold calls. Approximately 3 percent of economists at elite departments have read Polanyi (assuming that those that did not reply have not read him).”

Hmm. Not sure about that assumption. Anyway, Noah’s response was that economists tend to read new books. Dani Rodrik said: “Polanyi is a hard read and hard sell for economists. But he’s been incredibly influential for my own work.” I got some (very) mild Twitter stick for saying I had read it but wouldn’t set it for my students.

The Great Transformation: The Political and Economic Origins of Our Time

There are several reasons for this. Above all, the book is historically inaccurate – Deirdre McCloskey is the latest of many people to point this out in her new book, Bourgeois Equality. So if one reads it, it needs to be from a history of thought perspective. Secondly, it’s about social relations and culture, so not central for economics students even though I wholeheartedly agree that economists in general need more hinterland in other areas of social science and history.

It’s also a dense read, and there are better books to recommend to students to introduce them to the social context of markets. I’d say the original Albert Hirschman books have aged better – Exit, Voice and Loyalty for one – and aren’t marred by inaccuracies like The Great Transformation. Of more recent vintage, I think John McMillan’s Reinventing the Bazaar, James Scott’s Seeing Like A State and Michael Sandel’s What Money Can’t Buy cover the territory better.

Exit, Voice and Loyalty: Responses to Decline in Firms, Organizations and States Reinventing the Bazaar: A Natural History of Markets What Money Can’t Buy: The Moral Limits of Markets Seeing Like a State: How Certain Schemes to Improve the Human Condition Have Failed (Yale Agrarian Studies) by Scott, James New Edition (1999)

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Coase in theory and Coase in practice

While out and about yesterday, I read a little book from the IEA that I’d only dipped into before, Forever Contemporary: The economics of Ronald Coase, edited by Cento Veljanovski. It’s a useful introduction to Coase (although he wrote so clearly that there’s no excuse for not tackling his classic papers, The Nature of the Firm and The Problem of Social Cost.)

Forever Contemporary: The Economics of Ronald Coase (Readings in Political Economy)

The book has chapters providing a biography and a general overview, and then several looking at the applications of Coaseian thinking in different areas such as water, environmental protection, public goods provision, financial markets and even the sharing economy. It starts with the Coase theorem: that when property rights are clearly assigned and there are no transactions costs (such as those involved in acquiring information, negotiating, monitoring compliance etc), then there are no externalities leading to a divergence between private and social costs: the parties involved will negotiate their way to the efficient outcome. ‘Externalities’ are symmetric, he argued: if you claim a right to clean air, you are costing me the opportunity to pollute. Who compensates whom will depend how the property rights are assigned. If you indeed have your clean air right, I will have to bargain with you to pay you for the pollution; if I have the right to produce emissions, you will have to pay me to desist.

Coase made it clear he took the existence of transaction costs very seriously, and argued that every situation had to be carefully assessed to determine the most welfare-enhancing course of action. He certainly challenged the market failure framework established by Pigou, still used to consider the rationale for public policy interventions. Coase has often been taken to say more generally that it’s always best to leave it to the market, because people can bargain their way to solutions – and that is certainly the interpretation this volume puts on him, as you would perhaps expect from the IEA.

I think one has instead to take Coase at face value, and in each situation look at the incentives people face and the transaction costs involved in private bargaining and in the public sector alike – this determined empiricism is why I like Coase so much. As the essay here by Stephen Davies notes: “The boundaries of what is possible in this regard have shifted over time.” The useful bibliography of Coase’s work shows how seriously he took his own conclusion that you have to look in detail at each industry, its history and specificities before pontificating; as is well known, he described anything else as ‘blackboard economics’. Indeed, the people who arguably took him most seriously were the later Nobel winners, Elinor Ostrom and Oliver Williamson, who each in their won way focused on the detail of the institutions that exist to co-ordinate individual actions.

In a nice case study, Davies looks at how turnpike roads – toll roads- were the common means to expand Britain’s main road network in the late 18th and early 19th century. They were an example of club goods – non-rival in consumption, but excludable. Later of course in the UK roads came to be considered a pure public good to be provided by the state. Now we have one toll motorway, and some talk of more. Other countries, including statist France, have many toll roads. There is no right answer.

The book ends with a chapter on the sharing economy, a very interesting essay on the implications of a large decline in certain transactions costs.

There won’t be much here that is new to people who are already familiar with Coase, but – with the caution about its free market slant – it is a clear and accessible guide for students. And available free online as a pdf.

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Measuring and markets

I’ve been reading Michel Callon’s introduction to the edited volume Laws of Markets. It’s about the performativity of economics, a question that interests me (although I do struggle with the academic jargon of sociology; at least my own subject’s jargon is familiar). Callon writes: “The most interesting element is to be found in the relationship between what is to be measured and the tools used to measure it. The latter do not merely record a reality independent of themselves; they contribute powerfully to shaping, simply by measuring it, the reality that they measure.”

Laws of Markets (Sociological Review Monographs)

Needless to say, the question of how the classification and structures embedded in economic statistics shape the reality of the economy (through affecting understanding, behaviour and policy) is of keen interest to me. For instance, part of the debate about productivity is about what it measures, but also partly about what it defines. What is productivity when products play a minority role in economic activity? The Callon intro doesn’t ultimately enlighten: it seems to me to place too much weight on economics as a subject, for markets existed long before economists did. There has to be some two-way influence between reality and the attempt to make systematic a description of it. In fact, I don’t think economics is as different from some other subjects as the performativity analyses suggest. For instance, classification in biology is not completely dissimilar. I also wish other social scientists would acknowledge that economists *do* think a lot about the specifics of markets as social institutions – see, for one, John McMillan’s brilliant book Reinventing the Bazaar.

Reinventing the Bazaar: A Natural History of Markets

 

Still, there is something in this territory. It’s particularly important for sustainability that the concepts and measurements economists define and gather place ‘the economy’ in nature and the physical world. To be continued…

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