Lindau Economics Summit - Applied Uses of Economics

At the August 2014 Lindau Meeting, several plenary lectures by Nobel laureates will illustrate some of the ways in which economics can be useful for dealing with real-world problems. Here are some summaries of the presentations.

ALVIN ROTH - MATCHING KIDNEY DONORS AND RECIPIENTS

Almost every country in the world has laws against paying for kidneys. This is an example of a ‘repugnant market’, where any benefits of matching demand and supply need to be achieved without monetary transactions. Alvin Roth, who will deliver a lecture on repugnant markets, set up the New England Program for Kidney Exchange, using an algorithm based on game theory to match donor-recipient pairs.

The Exchange works like this: if, for example, a wife wants to donate a kidney to her ill husband but is not a genetic match, the system will find a couple in a similar predicament to arrange a compatible swap. Ideally the system is designed for two couples to reduce the need to coordinate surgeries across the country, but it has worked for chains of up to six couples.

PETER DIAMOND - US UNEMPLOYMENT

The US economy is experiencing a higher level of unemployment than before for the same level of the vacancy rate. This shift in the Beveridge curve – the relationship between the unemployment and vacancy rates – suggests a deterioration in the matching/hiring process in the economy. It is tempting to interpret this decline as a structural change in the way that the labour market works.

This interpretation has an obvious policy implication: however useful aggregate stabilisation policies are while unemployment is very high, they are likely to fail in lowering the unemployment rate all the way to the levels that prevailed before the recession since the labour market is now structurally less efficient in creating successful matches. Peter Diamond’s lecture will review theory, evidence and policy debates on the US labour market.

ROBERT MERTON - SYSTEMIC RISK MEASUREMENT AND MANAGEMENT

Systemic risk is an enormous issue for both governments and large asset pools. The increasing globalisation of the financial system, while surely a positive for economic development and growth, does increase the potential impact of systemic risk propagation across borders, making its control and repairing the damage caused a more complex and longer process.

In his lecture, Robert Merton will develop a model of systemic risk propagation among financial institutions and sovereigns. This model can be refreshed almost continuously with ‘forward-looking’ data at low cost and therefore, may be more effective in identifying dynamic changes in connectedness more rapidly than the traditional models.

While this research is still in progress, the basic approach and the empirical findings are encouraging and it would seem that at a minimum, this approach will provide ‘good’ questions, if not always their answers, so that overseers and policy-makers know better where to look and devote resources to discovery among the myriad of places within the global financial system.

WILLIAM SHARPE - ECONOMIC ANALYSIS OF RETIREMENT INCOME STRATEGIES

The proportions of older people in the population are increasing in most countries. Moreover, in the United States and other countries, there is a trend towards reliance on individuals’ savings to supplement social retirement plans. This places a considerable burden on individual investors to choose appropriate strategies to use savings to provide income efficiently during their retirement years.

William Sharpe’s lecture will discuss tools of economic analysis that can help inform such choices. Their use will be illustrated in an analysis of a complex financial product in which an investment company and a life insurer jointly provide an investment fund with a guaranteed lifetime withdrawal benefit.