Arnold Kling

Nobel Slaps Chicago

Arnold Kling, Great Questions of Economics
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This year's Nobel Prize in economics went to Daniel Kahneman and Vernon L. Smith. Both are known for observing actual human behavior when faced with ordinary economic problems. Kahneman, and his colleague Amos Tversky, identified many systematic biases in the way people deal with risk. Their work focused on the decisions of individuals. Smith pioneered the methodology of creating experimental markets. His work focused on predicting market outcomes by having experimental subjects participate in simulations.

The reason that I describe this year's Nobel as a slap for the University of Chicago is that the Chicago tradition does not open up the assumptions of individual maximizing behavior to empirical study. The famous illustration is Milton Friedman's billiard player, who knowns no physics yet behaves as if he were making elaborate Newtonian computations. Contrary to Friedman, this year's Nobel laureates believe that it pays to study the actual behavior of billiard players.

Here is a press release from Princeton University on Kahneman's award. Here is Vernon L. Smith's home page. Here is the Nobel committee's explanation of this year's award, which includes the following:

A challenging task in financial economics is to consider the extent to which the effects of systematic irrationality on asset prices will be weeded out by market arbitrage.

UPDATE: Zimran "winterspeak" Ahmed confirms my view that this year's Nobel will not be well received in Chicago.

Discussion Question. Both Kahneman and Smith have done studies that support the possibility of wild swings in asset prices. Do you think that the bubble and crash in the U.S. stock market helped sway the Nobel committee on their behalf?

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