“Berkeley’s Nobel Prize-Winning Economists”- (1) George A. Akerlof

Thanksgiving has passed by quickly and the final exams are coming up fast. During this very short Thanksgiving, I have had a chance to research each of the Nobel Prize winner’s personal life and his life-long academic and professional endeavors.

A1RDblCdE6LAs I was choosing which of the five scholars I should write about first for my “Berkeley’s Nobel Prize-Winning Economists” series, I received a book from my Undergraduate Research Apprentice Program professor, Dr. Edelstein, as an end of the semester gift. The title of the book was Phishing for Phools-The Economics of Manipulation & Deception by George A. Akerlof and Robert J. Shiller. Here, the word “phishing” is about getting people to do things that are in the interest of the phisherman, but not in the interest of the target. The word, “phools” indicates the people who, for whatever reason, are successfully phished by a phisherman. In the book, Professor Akerlof delivers a fundamental challenge to the insight that free markets will provide us with material well-being addressing the sellers’ intention to systematically exploit buyers’ psychological weakness and ignorance through manipulation and deception.

Drawn by the interesting title and the topic of the book, I wanted to know more about Professor George A. Akerlof and share his unique biography and academic works with the Haas community. Here we go.

 

Who Is Dr. George A. Akerlof?

  1. Dr. Akerlof was born on June 17, 1940 in New Haven, Connecticut.
  2. He received a B.A. degree from Yale (1962) and a Ph.D. degree from MIT (1966).
  3. He met his wife, Janet Yellen, in Washington, D.C. while working at the Fed (1977).
  4. After marriage, Dr. Akerlof received tenure from the Economics Department after he came back to Berkeley from LSE. Janet Yellen got a tenure-track job from the Business School (Haas) during this time (1980).
  5. In November, 2014, he joined the faculty of Georgetown University’s McCourt School of Public Policy.
  6. His research is based in economics, but it often draws from other disciplines, including psychology, anthropology, and sociology. He played a significant role in the development of behavioral economics and is perceived as one of the most influential economists in the world today.
  7. He once said, “I want a theory that is more closely linked to substantial policy issues and less tied to the official model and its assumptions”

 

Fun Facts:

  1. In his biography, Dr. Akerlof wrote, “Being a chemist or, at least some form of physical scientist, was thus a family ideal” as his great-grandfather, grandfather, father, mother, and brother were all scientists. As we all know, he became an economist instead.
  2. His great-grandfather and grandfather both graduated from Berkeley. Go Bears!
  3. The time when his father lost his job at Princeton was when Dr. Akerlof started thinking about the economy and learned the foundation of Keynesian economics.
  4. The Nobel Prize winning work, “Market for ‘Lemons’” was written during his first year at Berkeley as an assistant professor.
  5. During his leave from Berkeley, at New Delhi, India, he revised “the Market for ’Lemons’” as the editors felt that the issues in the paper were too trivial and less academic. During this time, he included in his paper the examples of incomplete markets of Indian economics history.

 

The Market for “Lemons”: Quality Uncertainty and the Market Mechanism

The underlying concept of Dr. Akerlof’s Nobel Prize-winning work is pretty simple. The keyword in his work is, “asymmetric information”, a well-known economic concept that explains certain situations when one party has more information about the market compared to the other party.

In his work, Dr. Akerlof introduces “Lemon Law” with his famous “automobiles market” example.

Below is the example (graph provided for economics geeks).

  1. Suppose there are high-quality and low-quality cars in the market.
  2. If both buyers and sellers have perfect information (having the same amount of information about the quality of the cars), then there will be two separate markets with two different market equilibriums/prices (high-quality market: D1, S1 & low-quality market: D2, S2). However, this is not the case in our scenario.
  3. While sellers know the true quality of the car, buyers can’t distinguish the good cars from the bad cars (a.k.a. lemons).graph
  4. Assuming there is a 50-50 chance that cars are either high or low quality, buyers perceive all cars as medium quality cars (D3). They will pay a price that is between the price of good cars and the price
    of lemons. (P3, P4)
  5. From the point of view of the sellers who are selling good cars, the price that buyers are willing to pay is too low. Therefore, they won’t sell their cars. (P3 is lower than P1)
  6. Meanwhile, the sellers who are selling lemons, the offered price will be higher than what they have expected. Therefore, they will sell lemons to the buyers on a higher price. (P4 is higher than P2)
  7. In the end, low-quality goods (lemons) will drive high-quality goods out of the market.

 

Why Is His Work So Important?

Dr. Akerlof’s work on asymmetric information is significant in today’s economy and business world as deceptive phishing happens all the time. In an unconstrained free market, buyers are like fish in a lake with millions of fishermen all dangling lures. These days, these lures are meticulously designed by numerous professionals that buyers may be able to avoid one or two lures, but will eventually be hooked sooner or later. Such phishing is prevalent in everyday markets today such as home sales, gym memberships, credit cards, news media, or food markets. On top of that, the financial infrastructure is always ready to phish the phools as we saw during the 2008 financial crisis.

You may think that the phishers should feel guilty for what they are doing. However, according to Dr. Akerlof, they aren’t necessary the bad people. The economic structure/system incentivizes these people by letting them stay in the business by phishing. For example, as Robert J. Shiller mentions, nobel-economy_art1supermarket owners place candy bars near the cash register to let the purchasers make an impulsive purchase. People usually think that they won’t play this trick to their customers if they become an owner of a supermarket themselves. However, in reality, profit margins of business are razor thin that anyone will end up tricking the buyers in order to stay in the business. This is why phishing is so prevalent in today’s business world.

Since he has started his fundamental work on Lemon Law, Akerlof has been constantly developing his ideas in order to solve numerous fundamental economic problems. In order to protect buyers from the current economic system, Akerlof is continuing his work to support the
idea that the free market must be moderated by regulations, government rules, or business standards to some extent. His continuing works are enlightening more and more people and scholars to understand how pervasive the phishing is in the economy today.

As business majors, from various case studies, we often get to see numerous entrepreneurs and other businessmen changing the world by creating shared values. While their efforts are also worth respect, works done by scholars like George A. Akerlof should be greatly appreciated as those are often the solutions to the most fundamental problems in the world. As stated in this year’s Undergraduate Haas Application, “Questioning the Status Quo” is important. However, as Dr. Akerlof’s biography and his academic endeavor show, being a “Student Always” is an important prerequisite for challenging the status quo. Thanks for reading.

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