Week1:Introduction

Economics?

• Econ101:economicsisthestudyoftheallocationofscarceresources

• LionelRobbins(1898-1984):“Economicsisthesciencewhichstudieshumanbehaviorasarelationshipbetweengivenendsandscarcemeanswhichhavealternativeuses”

• Soundskindofboring• Buttruethateconomistsloveconstrainedoptimization

Aseconomictheorists,weorganizeourthoughtsusingwhatwecallmodels.Theword“model”soundsmorescientificthan“fable”or“fairytale”althoughIdonotseemuchdifferencebetweenthem.Theauthorofafabledrawsaparalleltoasituationinreallife.Hehassomemoralhewishestoimparttothereader.Thefableisanimaginarysituationthatissomewherebetweenfantasyandreality.

Anyfablecanbedismissedasbeingunrealisticorsimplistic,butthisisalsothefable’sadvantage.Beingsomethingbetweenfantasyandreality,afableisfreeofextraneousdetailsandannoyingdiversions.Inthisunencumberedstate,wecanclearlydiscernwhatcannotalwaysbeseenintherealworld.Onourreturntoreality,weareinpossessionofsomesoundadviceorarelevantargumentthatcanbeusedintherealworld.

Wedoexactlythesamethingineconomictheory.Agoodmodelineconomictheory,likeagoodfable,identifiesanumberofthemesandelucidatesthem.Weperformthoughtexercisesthatareonlylooselyconnectedtorealityandthathavebeenstrippedofmostoftheirreal-lifecharacteristics.However,inagoodmodel,asinagoodfable,somethingsignificantremains.

• Asinthecaseoffables,absurdconclusionsrevealcontextsinwhichthemodelproducesunreasonableresults,butthismaynotnecessarilymakethemodeluninteresting.• Asinthecaseoffables,modelsineconomictheoryarederivedfromobservationsoftherealworld,butarenotmeanttobetestable.• Asinthecaseoffables,modelshavelimitedscope.(idealizedconditions,etc.)• Asinthecaseofagoodfable,agoodmodelcanhaveanenormousinfluenceontherealworld,notbyprovidingadviceorbypredictingthefuture,butratherbyinfluencingculture.

Yes,Idothinkwearesimplythetellersoffables,butisthatnotwonderful?

…everythingweknowisonlysomekindofapproximation,becauseweknowthatwedonotknowallthelaws asyet.[…]

Theprincipleofscience,thedefinition,almost,isthefollowing:Thetestofallknowledgeisexperiment.Experimentisthesolejudgeofscientific“truth.”Butwhatisthesourceofknowledge?Wheredothelawsthataretobetestedcomefrom?Experiment,itself,helpstoproducetheselaws,inthesensethatitgivesushints.Butalsoneededisimaginationtocreatefromthesehintsthegreatgeneralizations-toguessatthewonderful,simple,butverystrangepatternsbeneaththemall,andthentoexperimenttocheckagainwhetherwehavemadetherightguess.

Doeconomistsinfluenceculture?

• Yes,notalwaysingoodways…

• https://www.nytimes.com/2019/08/21/podcasts/the-daily/business-roundtable-corporate-responsibility.html• 6:36

Causeandeffect

• “Althoughpurelydescriptiveresearchhasanimportantroletoplay,webelievethatthemostinterestingresearchinsocialscienceisaboutcauseandeffect” -AngristandPischke

• Examples:Theeffectofclasssizeontestscores,schoolingonwages,colonialinstitutionsoneconomicgrowth(Acemoglu andRobinson),neighborhoodeffectsonlifeoutcomes(Chetty)

• Typically,economistsuseobservationaldata

Observationaldata

• Ex:Doesgoingtothehospitalmakepeoplehealthier?

• Data:97823participantsin NationalHealthInterviewSurvey

• Y:“ Wouldyousayyourhealthingeneralisexcellent,verygood,good,fair,poor?”(1-5)

• X:“Duringthepast12months,wereyouapatientinahospitalovernight?”

Data

Problem:selectionbias

Counterfactuals

• Toestimatetheeffectofgoingtothehospital,weneedtomodelcounterfactuals

• Y1=healthstatusifyougotothehospital(regardlessofwhetherornotyouwent)

• Y0=healthstatusifyoustayhome(regardlessofwhetherornotyouactuallydo)

• Noticewedon’tobserveY1thosethatstayhomeandwedon’tobserveY0forthosewhogotothehospital

Randomassignmentsolvestheselectionproblem:

Regressionanalysis

Data

Parameterstoestimate

UnobservableerrorGoodgenes,gooddiet,exercise,badhabits,etc

Regressionanalysis

Regressionanalysis

• Noselectionbias⇒ E(h|D)doesnotdependonD

• I.e.,Dcarriesnousefulinformationpredictingtheobservables

• Thisiscalledexogeneity ofindependentvariables

• Oneofthemostimportantassumptionsinallofeconometrics

• IfE(h|D=1)= E(h|D=0)=µ,lete=h-µ

• Re-writethemodelas

Y=a+µ+r*D+h-µ==a’+r*D+e

⦁ NoticeE(e|D)=0(thisishowtheexogeneity assumptionistypicallystated)

⦁ Youcan’tidentifycausaleffectswithoutthisassumption!!!!

Backtocauseaneffect(schoolingonwages,etc)…

• Simplestmodel:y=a+b*X+e

• yisthedependentvariable(e.g.,wages)

• xistheexplanatoryvariable(e.g.,schooling)

• e istheerrorterm

• b isthetreatmenteffect

• Econometricsprovidesuswithasetofmethodsforobtaininganestimate b ofb • E.g.,b=cov(X,y)/Var(X)

• Thesemethodsrequiretheexogeneity assumption,whichisoftenviolated

• Estimatingthetreatmenteffectwithobservationaldataishard

Experimentalmethods

• Inanexperiment,theexplanatoryvariableisexogenousbydesign

• Thisallowsustoidentifycausaleffects

• …andconductsomeofthemostinterestingresearchinsocialscience

Classroomexperimenthere?

History• Chamberlin(1948)

• Firstclassroomexperiment

• VernonSmith• StudentofChamberlin• Moremarketexperimentsinthe60s(Purdue)• NobelPrize(2002,w/DanielKahneman)

• Gametheory• VonNeumannandMorgenstern(1944)• JohnNash(1950)• RAND,Prisoner’sDilemma(1950)

• Source:CharlieHolt’stextbook

Methods

Methods

• Mostlabexperimentsconsistofseveraltreatments

• Betweensubjects• Onesubject>onetreatment

• Withinsubjects• Eachsubjectexposedtomultipletreatments

Hertwig andOrgmann (2011)

• Experimentaleconomicsmethodsdifferfrompsychologyin:• Scriptenactment• Repeatedtrials•Monetaryincentives• Proscriptionagainstdeception

•Why?Lessuncertainty

Canyoupredictwhatstudiesreplicate?

• Canyoupredictwhatstudiesreplicate?• https://80000hours.org/psychology-replication-quiz/• Funarticle:https://www.nytimes.com/2013/04/28/magazine/diederik-stapels-audacious-academic-fraud.html?pagewanted=all

Buteconomicsisn’tdoingmuchbetter…

Fieldvs.labexperiments

• I’llillustratethisusingtheexampleofgiftexchange• ThestorystartswithAkerlof (1982):

Fehr,Kirchsteiger,andReidl (1993)

• Firmmovesfirstandmakesawageofferw∈ {0,5,10,…}• Workermovessecondandchoosesefforte∈ [0.1,1]• Effortiscostly

• Gametheoryprediction:e=0.1,w=0

Gneezy andList(2006)

• Workershiredtocodelibrarybooks• 6hoursfor$12/hour

• Treatment:surpriseannouncementof$20/hour

• Result:subjectswithsurpriseannouncementworkharder

• Explanation?

Thefutureoflabexperiments

Thefutureoffieldexperiments

Thisclass

• Thefocusinthisclasswillbeonlabexperiments

• Inparticular,labexperimentswithagametheoryfocus

• Inparticular,recentlabexperimentswithagametheoryones

• Wewillfoscus onnewresearchthatIpersonallyaminterestedin

Next

1. Gametheorybasics(rationality,rationalizability,dominance).You’llneedtoknowsomemath

2. Someexperimentsonthebasics3. Moregametheory(Nashequilibrium).You’llneedtoknowsomemath4. SomeexperimentsonNashEquilibrium5. Moregametheory6. Moreexperiments7. Etc8. Afewweeksfromnow,stoptalkingaboutgametheoryexperimentsanddiscuss

• Behavioraleconomics(You’llneedtoknowsomemath)• Behavioraleconomicsfromthe“neoclassical”perspective(You’llneedtoknowsomemath)• Decisiontheory(experimentsonrisk,time,etc.You’llneedtoknowsomemath)

9. Ifyoudon’tcareaboutresearch,dropthisclass!!!