Judy makes scarves. Jake needs a scarf. Can anyone guess where this is going?
Yeah. Jake is going to buy a scarf from Judy. But while Judy thinks the scarf is worth about $150, Jake says he’s only willing to pay $20. How can this ever be resolved?
Well, if we’re economical engineers, we might try to solve this dilemma using mechanism design theory. “Mechanism design theory,” also called reverse game theory, tries to figure out which mechanisms result in which outcomes in situations where we’ve got buyers and sellers with asymmetric information.
We start with the end in mind. Let’s say Judy and Jake agree on a price of $82.50 for the scarf. Then we attempt to explain how they got there. What influenced Judy? What influenced Jake? Were there any external factors at play? How can we apply what happened with the scarf to other economic situations? Once we’re done there, we pretend they agreed on a price of $24.99 instead, and we start over.
If this sounds like it could get complicated...it can. It really, really can. People win Nobel Prizes for this kind of stuff. And if their theorems are good ones, they can be applied in fields from retail to investment brokering, or anywhere else someone might be interested in trying to influence a certain economic outcome. Which, let’s face it, is everywhere. Even Judy’s scarf stand.