When the University of Michigan Press approached me to bring out a book of collected papers on increasing returns in economics I was surprised. I had thought that only older researchers, venerable and near retirement, issued collected works. But Timur Kuran, my editor, and Colin Day, the Press's director, argued that although the papers collected here have been receiving much attention lately, several of them have appeared in obscure places and are not easy to track down. In book form they would be accessible. Moreover, if they were brought together, a wider picture might emerge from the mosaic they create than from the individual pieces. This sounded like sufficient rationalization to me, and I accepted their invitation with gusto.

Increasing Returns and Path Dependence in the Economy

A modern economy presents a picture of millions of people, either as individuals or organized into groups and firms, each pursuing their own disparate interests in a rather limited part of the environment. Somehow, these varied individual activities are more or less coordinated and some relative order emerges. Economists commonly explain that this is due to Adam Smith's "invisible hand," and that despite the conflicting interests of individuals, the result of the pursuit of their selfish ends is socially satisfactory. The market provides the mechanism which links and coordinates all the activities being pursued by individuals. Paradoxically, the sort of macroeconomic models which claim to give a picture of economic reality (albeit a simplified picture) have almost no activity which needs such coordination. This is because typically they assume that the choices of all the diverse agents in one sector-consumers for example-can be considered as the choices of one "representative" standard utility maximizing individual whose choices coincide with the aggregate choices of the heterogeneous individuals. My basic point in this paper is to explain that this reduction of the behavior of a group of heterogeneous agents even if they are all themselves utility maximizers, is not simply an analytical convenience as often explained, but is both unjustified and leads to conclusions which are usually misleading and often wrong. Why is this? First, such models are particularly ill-suited to studying macroeconomic problems like unemployment, which should be viewed as coordination

https://pubs.aeaweb.org/doi/pdfplus/10.1257/jep.6.2.117

Whom Or What Does the Representative Individual Represent

THE NOTION OF EQUILIBRIUM proposed by Nash [19] has come to play a dominant role in economic applications of noncooperative games. While analyses of Nash equilibria have unquestionably contributed to our understanding of economic behavior, it would be unreasonably optimistic to maintain that Nash "solved" the problem of noncooperative strategic choice. There is a small literature (beginning with Ellsberg [6]) and a much larger oral tradition which argues that Nash behavior is neither a necessary consequence of rationality, nor a reasonable empirical proposition. In this paper I take the view that although there may be various reasons why an agent might select a Nash strategy, the notion of an equilibrium has little intrinsic appeal within a strategic context. When an agent reaches a decision in ignorance of the strategies adopted by other players, rationality consists of making a choice which is justifiable by an internally consistent system of beliefs, rather than one which is optimal, post hoc. This point of view is not original; indeed, most serious justifications of the Nash hypothesis embrace such an approach, arguing that agents will expect the game to yield a Nash outcome, and consequently will choose their equilibrium strategies. Nevertheless, when we think in terms of maximizing utility subject to expectations rather than realizations, it becomes clear that the Nash hypothesis, far from being a consequence of rationality, arises from certain restrictions on agents' expectations which may or may not be plausible, depending upon the game being played. We are then quite naturally led to ask: are there any restrictions of individuals' expectations (and hence choices) which are required by rationality alone, rather than by (subjective) plausibility? This paper is concerned with defining, justifying, characterizing, and refining a criterion for rational strategic choice, which I label "rationalizability."

http://pubmail.dklevine.com/archive/refs4661465000000000381.pdf

Rationalizable Strategic Behavior

This paper proposes a new mechanism for combinatorial assignment—for example, assigning schedules of courses to students—based on an approximation to competitive equilibrium from equal incomes (CEEI) in which incomes are unequal but arbitrarily close together. The main technical result is an existence theorem for approximate CEEI. The mechanism is approximately efficient, satisfies two new criteria of outcome fairness, and is strategyproof in large markets. Its performance is explored on real data, and it is compared to alternatives from theory and practice: all other known mechanisms are either unfair ex post or manipulable even in large markets, and most are both manipulable and unfair.

The Combinatorial Assignment Problem: Approximate Competitive Equilibrium from Equal Incomes

We present a new approach to the theory of imperfect competition and apply it to study price competition among differentiated products. The central result provides general conditions under which there exists a pure-strategy price equilibrium for any number of firms producing any set of products. This includes products with multi-dimen- sional attributes. In addition to the proof of existence, we provide conditions for uniqueness. Our analysis covers location models, the characteristics approach, and probabilistic choice together in a unified framework. To prove existence, we employ aggregation theorems due to Prekopa (1971) and Borell (1975). Our companion paper (Caplin and Nalebuff (1991)) introduces these theorems and develops the application to super-majority voting rules. WE PRESENT A NEW APPROACH to the theory of imperfect competition and apply it to study price competition among differentiated products. The central result is that there exists a pure-strategy price equilibrium for any number of firms producing any set of products. In addition to the proof of existence, we provide conditions for uniqueness. Our model both unites diverse strands of the earlier literature and opens up uncharted areas for future analysis. In particular, we expand the traditional one-dimensional framework to allow for multi-dimen- sional product differentiation. Our approach involves twin restrictions on consumer preferences: one on individuals' preferences, the other on the distribution of preferences across society. These are generalizations of the restrictions supporting 64%-majority rule presented in Caplin and Nalebuff (1988). To prove existence, we apply a new technique of aggregation. This technique is valuable in a variety of other problems. In the companion paper, we use the aggregation result to generalize our earlier work on 64%-majority rule and to characterize the relationship between the distribution of human capital and the distribution of income (Caplin and Nalebuff (1991)). There are additional applications in statistics and in search theory. We begin with a brief review of the early literature on imperfect competition, describing in more detail the existence problem and previous solutions. Section 3 presents our twin assumptions, and shows that they cover many standard cases. In Section 4, we introduce the aggregation theorem and use it in the analysis of demand functions. The proof of existence of equilibrium is in Section

/pdf/aggregation-and-imperfect-competition-on-the-existence-of-4bwuq5o83q.pdf

Aggregation and imperfect competition: on the existence of equilibrium

General equilibrium models of oligopolistic competition give rise to relative prices only without determining the price level. It is well known that the choice of a numeraire or, more generally, of a normalization rule converting relative prices into absolute prices entails drastic consequences for the resulting set of Nash equilibria when firms are assumed to maximize profits. This is due to the fact that changing the price normalization amounts to altering the objective functions of the firms. Clearly, the objective of a firm must not be based on price normalization rules void of any economic content. In this paper we propose a definition of the objective of a firm, called maximization of shareholders' real wealth, which takes shareholders' demand explicitly into account. This objective depends on relative prices only. Real wealth maxima are shown to exist under certain conditions. Moreover, we consider an oligopolistic market and prove the existence of a Nash equilibrium in which each firm maximizes the real wealth of its shareholders.

The price normalization problem in imperfect competition and the objective of the firm

Equilibrium analysis of exchange economies with indivisible commodities

The Price Normalization Problem in Imperfect Competition and the Objective of the Firm

It is well-known that Pareto-efficiency requires, at least in many cases, that prices be set equal to marginal costs. For this reason economists often argue in favor of the marginal cost pricing rule as long as no overly large deficit results. If strongly increasing returns to scale cause a deficit which is considered too large, the marginal cost pricing rule is appropriately modified. To cover the deficit partly or fully, necessary conditions for optimal departures from marginal cost pricing are derived and their implementation is recommended. Normative considerations of this kind lead to what is called Ramsey pricing or pricing ~t la Boiteux. The normative character of Boiteux-Ramsey pricing is the starting point of a large part of the industrial organization literature and the basis for many specific policy recommendations, a typical example being proposals for the structure of telephone rates. Even if one is aware of the fact that quite often first best optimality requires marginal cost pricing and second best optimality requires Boiteux-Ramsey pricing, a further thought leads to the question of what the final outcome will actually be if such pricing rules ate adopted. Leaving distributional aspects aside, although they can be of great relevance, and focusing on efficiency only, o n e

When Does Marginal Cost Pricing Lead to Pareto Efficiency

We consider oligopolistic markets in which the notion of shareholders' utility is well-defined and compare the Bertrand-Nash equilibria in case of utility maximization with those under the usual profit maximization hypothesis. Our main result states that profit maximization leads to less price competition than utility maximization. Since profit maximization tends to raise proces, it may be regarded as beneficial for the owners as a whole. Moreover, if profit maximization is a good proxy for utility maximization, then there is no need for a general equilibrium analysis that takes the distribution of profits among consumers fully into account and partial equilibrium analysis suffices.

Profit Maximization Mitigates Competition

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