This is a provocative question for Arianna and others of her persuasion. Much of it goes over similar ground to Paul Samuelson's address to a conference of evolutionary economists a couple of years ago.
Evolutionary economics takes its cue from biology and sees the economy as an ecosystem, with an endless variety of different "species" (firm strategies) competing, right? And as a result EEers reject the rationalistic concept of equilibrium, whether market or game-theoretic. The world is always moving forward, never at rest, and behaviour is never perfectly adjusted between different actors.
I find these claims pretty plausible, and ironically more plausible in my field -- political economy, where straight Nash Equilibrium is completely dominant -- than in the study of markets.
But.
1. Biologists use equilibrium concepts all the time, and these concepts were adapted from game theory by John Maynard Smith. Indeed, instead of being looser than "rational" game theory, evolutionary game theory concepts actually make tighter predictions: an Evolutionarily Stable Strategy is always a Nash Equilibrium, but not the other way round.
2. Equilibrium has been tested in the lab, and holds up pretty well -- e.g. in auction markets. I am not claiming we can naively generalize from the lab to real markets. But if it works well in the lab, doesn't that support the underlying theory?
3. One major use of equilibrium predictions is to generate comparative statics (ie predictions that if parameter X varies, outcome variable Y will vary with it in some specific way). Even if economies never reach equilibrium, the forces pushing them towards equilibrium may still generate the same comparative statics. For example, although the voting behaviour that we observe is not compatible with the main equilibrium voting models -- people vote too much -- still, they vote less when the election is less competitive, as the models predict.
4. Social science is all about the search for surprising insights. Equilibrium concepts -- more fundamentally, the idea that people react to incentives -- are a good way to generate these insights. (One random example: smoking bans in pubs might increase child cancer, because more people stay at home and smoke there.)
So, what's wrong with equilibrium?
"1. Biologists use equilibrium concepts all the time, and these concepts were adapted from game theory by John Maynard Smith."
ReplyDeleteBut unlike Nash, the justification for the equilibrium does not depend on coordination of expectations in a single shot.
"Indeed, instead of being looser than "rational" game theory, evolutionary game theory concepts actually make tighter predictions: an Evolutionarily Stable Strategy is always a Nash Equilibrium, but not the other way round."
I assume you mean a *profile* of ESS's. But does EGT always predict convergence on an equilibrium? Perhaps the EGT claim is "if there is convergence it will be on an ESS profile, but we necessari;y don't expect such play in every single shot."
"2. Equilibrium has been tested in the lab, and holds up pretty well -- e.g. in auction markets. "
I have seen evidence in either direction in lab work.
"One major use of equilibrium predictions is to generate comparative statics ... Equilibrium concepts -- more fundamentally, the idea that people react to incentives -- are a good way to generate these insights."
It is true that it generates interesting and often substantiated predictions. But you would not argue that one believe in a concept because it is "useful", would you? I also think that many of the substantiated predictions could also be justified by rationalizability, so don't require the troublesome coordination that Nash involves. And does the smoking ban example (I haven't seen the paper) really involve strategic interaction, or isn't this just individual optimization (a dominant strategy response to the smoking ban).
Your admittedly ignorant of evolutionary game theory friend,
David
Agreed with everything. In particular, I wouldn't ever claim that behaviour is always in equilibrium - only that equilibrium concepts sometimes lead to accurate predictions. Question: is there any non-equilibrium method of analysis that been comparably successful? Maybe some concepts from psychology?
ReplyDeleteFrom Ro'i on Facebook:
ReplyDeleteMany biologists move away from equilibrium as well. You forgot to mention that ESS is a subset of NE, but does not necessarily exist. Even when dynamics converge, equiklibrium predictions may not be very useful. Here's a non-strategic example: A heterogeneous environment includes many different niches, each with its unique fitness curve. in each generation there's a complete reshuffle of individuals over the environment. The populatino will converge to a heterogeneous state, and not the optimal response to the heterogeneous environment.
From Alex Coad on Facebook:
ReplyDeleteHi Dave, some reactions to your thoughts:
a) just because biologists (or physicists) do it, it doesn't mean economists should do it
b) just because some applications of equilibrium economics work well (auction theory works well, but then agai...n to my knowledge there is no evolutionary theory of auctions), there are many that don't work well. Consider this example - the UK government spends more each year on helping small business than it does on the police force (!) even though economists are not agreed that the govt should help small business in the first place. The basic model of small business financial constraints is based on the assumption of perfect-foresight rational entrepreneurs that base their entry decision on rational equilibrium cost-benefit analysis (which is of course very far from the truth - many entrepreneurs are just over-optimistic and will quickly fail). So, in this case an equilibrium model is not helpful and can do more harm than good.
c) I'm sorry that Arianna now smokes at the house (although I'm glad she doesn't smoke near me!), get her some snuff instead ;) Continuing on this theme - you could even say that there are 2 equilibria - smoke at a pub, and don't smoke, and that smoking at home in front of the kids is not an equilibrium in itself but rather an awkward adaptive response to changes in the first equilibrium.