While most of us were sleeping this morning the Royal Swedish Academy of Sciences announced that Oliver Hart and Bengt Holmstrom were awarded the 2016 Nobel Prize in Economic Sciences “for their contributions to contract theory.” Hart, an English-born economics professor at Harvard, and Holmstrom, a Finnish-born economics and management professor at MIT, received the award for improving the design of contracts.
Hart and Holmstrom are two giants in contract theory. Though the first formal treatment of contract theory was given by Kenneth Arrow in the 60’s, the pairs’ work, which began in the 1970’s, helped establish contract theory as a subfield of economics. They have written a number of papers covering a broad range of topics within contract theory from CEO pay to privatizations. Most notably, their theoretical work was described by the Royal Swedish Academy of Sciences as the primary motivation for the way companies pay senior executives and how governments choose to hire private companies to provide public services.
This victory comes as a bit of a surprise as neither Hart nor Holmstrom were among the list of favorites to receive the award. Economists thought to have the best chance of winning included Oliver Blanchard, chief economist at the IMF, Edward Lazear, senior fellow at Stanford’s Hoover Institution, and Paul Romer, chief economist at the World Bank, who was actually wrongly rumored to have won the award last Thursday.
As a sucker for theory I was pretty excited to see that two academics won this award for theoretical work that helped define and expand ideas such as the Principal-agent problem and contracts that encourage mutually beneficial behavior. In the previous ten years the award was given eight times to economists whose work was primarily econometric while only twice to economists for theoretical work (in 2007 Hurwicz, Maskin, and Myerson won for work in mechanism design theory and in 2012 Roth and Shapley won for theory of stable allocations and the practice of market design). So it’s always nice to see that from time to time, the academy will recognize economists whose theoretical work helped establish the way we think about economics today, as flawed as that thinking may be in some cases.
Of course I can’t write this post without mentioning there is no official Nobel Prize in Economics. Alfred Nobel did not include a prize for economics in his will in 1895; instead, it has been awarded since 1969 after it was established by a donation from Sweden’s central bank the Sveriges Riksbank. That’s why it’s officially titled the Sveriges Riksbank prize in economics awarded in memory of Alfred Nobel.
Nevertheless, it’s the highest award in economics and the only Nobel Prize given in a social science which many argue is the reason economics has become the most prominent social science in the world above psychology, anthropology, sociology, and political science. As a lover of economics I’m not ashamed to say this makes me quite happy.