Tuesday, October 27, 2009

An Economics Nobel Prize for Elinor Ostrom

This year the Nobel Prize in Economics went to Elinor Ostrom of Indiana University and Oliver Williamson of the University of California, Berkeley.

Williamson is a senior and respected economist whose work on transaction costs is certainly worthy of recognition. But the big news, really, is Ostrom’s award. Not only is she the first woman laureate – out of 64 Economics Nobel Prizes handed out since the award was first instituted in 1969 – but she isn’t even an economist, strictly speaking, but rather a political scientist and does not work at one of the glamorous “top ten” universities which tend to dominate the Nobel and other prizes.

This is a great choice by the Nobel Committee, very much in keeping with Alfred Nobel’s original vision for the prize. She may not be a technical mainstream economist but she is a superb social scientist and her findings are of interest and relevance for economics and other disciplines and more generally, for social policy.

What is Ostrom’s contribution? She has focussed on the fundamental problem of governing the use of shared resources such as the environment or common grazing land – a problem often referred to as the “tragedy of the commons”.

This is because these problems pose a social dilemma. Collectively we are all better off if we cooperate – do not over-graze public lands, do not over-fish in shared waters, do not pollute the atmosphere, do not throw rubbish on the streets – but the problem is that if everyone abides by these rules, then an individual who flouts the rules is better off at the expense of everyone else. And if everyone reasons along similar lines then everyone behaves in a self-interested manner resulting in a bad outcome for all concerned. These social dilemmas pose a tension between cooperation and self-interest, between maximizing the public good and acting in a self-interested manner thereby benefiting the individual at the expense of society.

The insight was summed up brilliantly by Joseph Heller in Catch 22, in the following exchange between Yossarian and Major Major Major Major.

“Suppose we let you pick your missions and fly milk runs,” Major Major said. “That way you can fly the four missions and not run any risks.”
“I don’t want to fly milk runs. I don’t want to be in the war any more.”
“Would you like to see our country lose?” Major Major asked.
“We won’t lose. We’ve got more men, more money and more material. There are ten million people in uniform who can replace me. Some people are getting killed and a lot more are making money and having fun. Let somebody else get killed.”
“But suppose everybody on our side felt that way.”
“Then I’d certainly be a damned fool to feel any other way. Wouldn’t I?”

In economics, a maintained assumption is the idea of rational self-interest; that individuals will usually act in their own self-interest as expressed in the above quote from Catch 22. Given this assumption of self-interest, economists believe that individual humans will have an exceedingly hard time in addressing social dilemmas and that successful resolution of such problems will require government intervention; ie., one needs a Hobbesian leviathan to address such dilemmas.

But Ostrom’s work- based on hundreds of case studies and numerous detailed controlled experiments - shows that the self-interest based prediction is almost always incorrect and that humans, left to themselves, are much better at tackling such problems than traditional economic theory suggests.

To take one instance, Ostrom and her colleagues at the “Workshop in Political Theory and Policy Analysis” at Indiana University have been collecting thousands of written cases about resources managed by local users of fisheries, irrigation systems and grazing lands. In Nepal, they have collected data about the rules and general management strategies used to manage over 200 irrigation systems. Some of these are managed by government agencies (agency managed irrigation systems or AMIS) while some are managed by the farmers (farmer managed irrigation systems or FMIS). They find that compared to AMIS, FMIS are able to achieve a higher agricultural yield, a more equitable distribution of water and better maintenance of the irrigation systems. There are striking differences in the way the two systems are managed. Under AMIS, infractions are recorded by government officials while under FMIS they are recorded by the farmer-monitors. Furthermore, the AMIS tend to rely more on fines for infractions than FMIS. Rules and quotas are followed 65% of the time in FMIS compared to only 35% of the time in AMIS. Thus rules and sanctions designed by the farmers themselves tend to be more effective than those imposed by government officials.

Why is this work important? Because it gives us practical answers to how we can go about addressing such problems at the local level, using decentralized mechanisms, a very similar idea to Muhammad Yunus’s approach to micro-finance using the Grameen Bank. What Ostrom provides are directions about how to address real-life problems using simple policies yielding effective results. That is surely deserving of the Nobel Prize!

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