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Alfred Nobel Prize in Economics awarded for contract theory

On the left – Oliver Hart, on the right – Bengt Holmström
Niklas Elmehed / Nobel Prize

The Royal Swedish Academy of Sciences in Stockholm named the winners in economics in memory of Alfred Nobel, which is often called the “Nobel Prize in Economics.” 48th Prize has been awarded to Oliver Simon D’Arcy Hart and  Bengt Robert Tomas Holmström with the wording “for contributions to  the theory of contracts » (for their contributions to contract theory ).

Bengt Robert Holmstrom was born in Helsinki. He is now a professor at the Massachusetts Institute of Technology. Oliver Hart – British economist, professor at Harvard University. The works of the laureates allowed to describe from the point of view of economic theory how the contracts between economic agents should be arranged. The main difficulty in entering into any contract is that this type of agreement almost always contains a conflict of interest and neither party has complete information about the subject matter of the contract.

Bengt Holmström and, independently of him, Stephen Shevell developed in 1970 the fundamentals of the theory of contracts and the principle of informativeness. According to this principle, the size of payments from one agent to another should be associated with all possible indicators that may indicate the actions of the second agent. As explainedThe popular science statement of the theory of contracts published by the Nobel Committee, in the optimal contract, the amount of payments to the manager, whose work affects the value of the company’s shares, should depend not only on changes in the value of shares, but also on changes in the value of shares of other companies in the same industry. Otherwise, the employee may receive bonuses or, conversely, not receive them because of factors that do not depend on him. Thus, for areas in which activity is associated with a high proportion of risk, the theory recommends choosing fixed salaries, and in sustainable industry areas, wages can be associated with productivity indicators (relative growth in the value of company shares compared to similar companies).

The main contribution of Oliver Hart is to develop one of the areas of the theory of contracts – the theory of incomplete contracts (1980s). It refers to which of the parties to the contract makes decisions in appropriate circumstances. This theory allows you to determine, for example, in what situations organizations (such as schools or prisons) should be private or public.

Unlike the Nobel Prizes in Physiology and Medicine, Physics, Chemistry and Literature, and the World Prize, the Prize in Economics was established not by Alfred Nobel himself, but by the Bank of Sweden in 1969. Its size is equal to the size of the “main” awards – this year it is eight million Swedish crowns.

In 2015, the prize winner was Angus Deaton, a professor at Princeton University. The economist received the  prestigious award “for analyzing consumption, poverty and welfare.” The central object of the scientific interest of the laureate is the analysis of household consumption, the search for factors affecting the emergence and growth of poverty. Deaton’s many works are devoted to India, primarily in the field of providing the poorest people with medical care. For a long time, the economist has also been engaged in improving the methods of analyzing economic questionnaires.

In 2014, the French economist Jean Tirol won the award with the wording “for analyzing market power and its regulation”. His work, noted by the Nobel Committee, concerns the regulation of markets dominated by several large companies. Tyrol is also known for its work on mathematical modeling of the impact on the market of the concepts of collective reputation, quality and integrity.

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