August 16, 2008
Getting the price right
On the first day of college, the Dean addressed the students, pointing out some of the rules: "The female dormitory will be out-of-bounds for all male students, and the male dormitory to the female students. Anybody caught breaking this rule will be fined $20 the first time."
He continued, "Anybody caught breaking this rule the second time will be fined $60. Being caught a third time will cost you a fine of $180. Are there any questions?"
At this point, a male student in the crowd inquired: "How much for a season pass?"
From: "School Jokes", Wednesday, February 6, 2008
Posted by jmm at 01:40 PM | Comments (0) | TrackBack | Permalink »
August 04, 2008
Can incentives make the skies friendlier?
For years, economists doing incentive-centered design have thought airport landing slots were a natural application. Indeed, one of the seminal research papers on "smart markets" (combining high-powered computation with incentives for resource allocation) was Rassenti, Stephen J., Vernon L. Smith, and Robert L. Bulfin (1982), "A Combinatorial Auction Mechanism for Airport Time Slot Allocation," Bell Journal of Economics, 13, 402-417 (Smith later won the Nobel Prize for his pioneering work in experimental economics and market design). Economists have been advising the Federal Aviation Administration for the past several years on the design of auctions for landing slots at New York metropolitan area airports (JFK, La Guardia, Newark), and this spring the Dept. of Transportation announced it was implementing a scheme to auction a small number of slots at each airport.
Today, the N.Y. Port Authority announced it would block the use of auctioned slots. Opponents claim that the auctions would raise prices and not reduce delays. Supporters claim that creating a market for scarce slots would increase competition, which would keep prices down, and put the slots in the hands of airlines who at a given time have the busiest schedules, thus reducing delay. The opponents argue that the best solution is to spend money to modernize the air traffic control system and hire more controllers.
This battle over an incentive-centered design scheme highlights key issues in many market-based allocation schemes. It is quite typical for market opponents to argue we should simply increase supply: but without some sort of value-based mechanism to allocate supply, simple economics and lots of history show us that increasing supply will just lead to more overuse and continuing congestion. (See urban highway development; see the continued overload of Internet capacity.)
It is also common for market opponents to argue that creating a market will increase prices. This is rarely true for a well-designed market. By increasing the efficient use of the scarce resource, waste and cost should be reduced, and overall, assuming some degree of competition, prices tend to come down. In the case of landing slots, the slots that will charge high prices are presumably during peak times: airline prices are already higher then, and even if they do raise a bit, we should see prices during off-peak times fall as those who don't get peak slots compete for passengers off-peak. Higher peak prices and lower off-peak is one of the oldest, and most effective ways to smooth demand over limited capacity, and leads to better use of an expensive facility (and lower overall costs to consumers).
I haven't seen what DOT (or whoever would run the auctions) would do with the revenue. Fundamentally, though, this is not a cost: no resources are being used up by the auction (well, a few people to run them). The revenues could be transferred right back to the airline industry (say through reduced landing taxes) to keep the overall cost of running airlines the same.
I don't know that the particular design of the slot auctions was good: that is, how much it would increase efficiency, what would be done with the revenues, whether they would be run with a lean team rather than a bulging bureaucracy. But the arguments that have been raised by opponents seem to be a mix of misunderstanding about resource allocation, and the anguished cries of those who have market power and control over existing slots that they might actually face more competition.
Posted by jmm at 02:20 PM | TrackBack | Permalink »
February 04, 2008
The Industry Standard returns as prediction market
The Industry Standard was one of the go-to news sources during the late 1990s dot-com boom. Like so many of the companies on which it reported, it went bankrupt in 2001. However, the computer industry trade publisher International Data Group brought it back to life today. 
In a novel twist, The Industry Standard is now combined online newspaper and a prediction market. With a free account, readers can place (fake currency) side bets on various predictions about industry events. For example, markets open today include whether Yahoo! will accept Microsoft's bid by the end of the week, and whether Google, Yahoo! or Microsoft will buy Tivo by the end of the summer.
Prediction markets are a type of incentive-centered design that have become widespread and hot in the past few years. The first significant example I recall is the 1988 Idea Futures market by Robin Hanson, though academic articles by Hofstee (1984) and Leamer (1986) came a bit earlier.
There are quite a few well-known and active prediction markets now, such as Hollywood Stock Exchange, TradeSports, and News Futures. However, the new Industry Standard is the first time I've seen a significant market that is so closely linked to an online news source (though others sometimes provide a limited news feed). It seems like a natural idea: an industry-focused news site (if successful) is bringing in knowledgeable people with an interest in the likelihood of industry events.
Why is a prediction market an incentive-centered design? It is providing incentives to induce knowledgeable people to make the effort to reveal their knowledge and beliefs, and to do so honestly (so they address problems of both hidden action and hidden characteristics). Traditional stock markets provide this information revelation and aggregation role for the futures of publicly-traded companies; prediction markets play the same role for other outcomes.
Most of them, due to gambling and securities laws in the US, run based on funny money (valueless currency). Thus, the substance of the incentives is not immediately clear, and it is a topic for future research to determine how well these markets do induce effort and truth revelation. (The Iowa Electronic Markets, which has approval to trade in small amounts of money, mostly on political outcomes, has performed extremely well -- almost always better than professional polling organizations such as Gallup -- for many years.) It is going to be interesting and instructive to analyze participant responses to non-pecuniary incentives.
Former Michigan Ph.D. student Dave Pennock (now with Yahoo! Research) publishes an excellent blog about predicion markets: Oddhead.
(Image courtesy of "Financial Aid Podcast" on Flickr.
Posted by jmm at 08:28 AM | Comments (0) | TrackBack | Permalink »
February 12, 2007
Pay as much as you want?
I stumbled on a couple of online businesses that are trying a variant on shareware pricing for content and services: "pay as much as you want".
The first is Magnatune, which sells music from selected independent artists. You can stream for free (similar to various Internet "radio" stations). If you want to download a "CD" of music from an artist, Magnatune suggests a price (typically about $8), but you can pay as little as $5 or as much as $18 (they don't seem to allow you to pay more). In a USA Today story, the CEO claims that the average price paid is $8.93, not the minimum $5 allowed.
The second is LibraryThing. If you don't know it, LibraryThing is a favorite in some SI circles: it's an online book social network / book cataloguing service. You enter books you own (with the ability to keyword search a dozen or more online catalogues, like Amazon's, and the University of Michigan Library's, to get all of the bibliographic information), tag them, share or not with others, browse through others' collections via tags, etc. LibraryThing announced on Saturday that it was intrigued by Magnatune's idea, LibraryThing charges $10 for one year, or $25 lifetime, but now "suggests" those amounts but lets you choose from a range ($19 to $55 for lifetime accounts).
Shareware is somewhat different: you get to use the shareware with or without restrictions (e.g., some functions are crippled) without paying anything, then if you want to pay (usually for an unrestricted version), the price is usually fixed. Freeware is a bit closer: lots of freeware "suggests" a donation. However, with Magnatune and LibraryThing you have to pay something to get the goods or services, but the amount is (within bounds), up to the buyer.
An interesting experiment in altruism / guilty consciences (or perhaps peer pressure or peer regard? Magnatune and LibraryThing know who you are!).
Posted by jmm at 11:15 PM | Comments (0) | Permalink »
October 11, 2006
Market for Diggs
Something valuable happening on the Net? Then a market will emerge for it. The Blog Herald reports that there is now a service that sells "Diggs" (gets users to "digg" stories posted on digg.com so that they get ranked higher),
Publishers get to pay $20 and an additional $1 per dig, and digg users can get paid $0.50 for every 5 stories they digg.
Posted by jmm at 04:16 PM | Permalink »