!DOCTYPE html PUBLIC "-//W3C//DTD XHTML 1.0 Strict//EN" "http://www.w3.org/TR/xhtml1/DTD/xhtml1-strict.dtd"> Streamline Training & Documentation: Mechanism Design

Sunday, July 20, 2008

Mechanism Design

Last year's Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel went to three men who "laid the foundations of mechanism design theory" — Leonid Hurwicz of the University of Minnesota, Eric S. Maskin of the Institute for Advanced Study at Princeton, and Roger B. Myerson of the University of Chicago.

Since this area of economics is quite fertile, it's helpful to have the accessible explanation of mechanism design — as it applies to provision of public goods — provided in a brief article published on July 16 by Arizona State University's online bi-weekly Knowledge@W.P.Carey.

In background information (pdf) compiled by the Nobel prize committee, Hurwicz's seminal 1960 formulation is summarized as follows:
... a mechanism is a communication system in which participants exchange messages with each other, messages that jointly determine the outcome. These messages may contain private information, such as an individual’s (true or pretended) willingness to pay for a public good [e.g., clean air]. The mechanism is like a machine that compiles and processes the received messages, thereby aggregating (true or false) private information provided by many agents. Each agent strives to maximize his or her expected payoff (utility or profit), and may decide to withhold disadvantageous information or send false information (hoping to pay less for a public good, say). This leads to the notion of “implementing” outcomes as equilibria of message games, where the mechanism defines the “rules” of the message game. The comparison of alternative mechanisms is then cast as a comparison of the equilibria of the associated message games.
The Knowledge@W.P. Carey article, drawing on a lecture by Maskin, summarizes the power of mechanism design theory:
... it doesn't require the participants to behave in idealized ways nor does it require the designer to determine the participants' particular motivations ahead of time. Instead, the theory assumes participants will act according to whatever is in their best interest and focuses instead on designing a mechanism that brings "public goals in line with private goals," says Maskin.
The article goes on to summarize application of mechanism design to the problem of achieving reductions in greenhouse gas emissions.