Mechanism Design Theory

In economics, mechanism design is the art of designing rules of a game to achieve a specific outcome. This is done by setting up a structure in which each player has an incentive to behave as the designer intends. The game is then said to implement the desired outcome. The strength of such a result depends on the solution concept used in the game.

Mechanism designers commonly try to achieve the following basic outcomes: truthfulness, individual rationality, budget balance, and social welfare. More advanced mechanisms attempt to resist harmful coalitions of players.

Most of the results in mechanism design have been established by economists, but some mathematicians, computer scientists, and electrical engineers also work in the field.

One branch of mechanism design is the creation of markets, auctions, and combinatorial auctions. Another is the design of matching algorithms, such as the one used to pair medical school graduates with internships. A third application is to the provision of public goods and to the optimal design of taxation schemes by governments.

A common exercise in mechanism design is to achieve the desired outcome according to a specific solution concept. The celebrated Gibbard-Satterthwaite theorem shows that any outcome that can be implemented as a dominant strategy equilibrium is necessarily dictatorial. This is similar to Arrow's Impossibility Theorem. By contrast, implementation in Nash equilibrium is possible for a much wider range of social choice rules.

The 2007 Nobel Prize in Economics was awarded to Leonid Hurwicz, Eric Maskin, and Roger Myerson "for having laid the foundations of mechanism design theory".

****** Above extracted from Wikipedia

A certain class of principal-agent problems are called mechanism design problems. In these, a principal would like to condition her own actions on the private information of agents. The principal must offer incentives for the agents to reveal information.

Examples from the theoretical literature are auction design, monopolistic price discrimination, and optimal taxation. In an auction the seller would like to set a price just below the highest valuation of a potential buyer, but does not know that price, and an auction is a mechanism to at least partially reveal it. In a price discrimination, the seller would like to offer the product at different prices to groups with different valuations but may not be able to identify which group an agent is a member of in advance.

Terms related to Mechanism Design Problems:
Principal-Agent Problem,.....Auction,.....Price Discrimination.

Definition: Principal-agent problem is a particular game-theoretic description of a situation. There is a player called a principal (e.g. fund purchaser), and one or more other players called agents (e.g. fund managers) with utility functions that are in some sense different from the principal's. The principal can act more effectively through the agents than directly, and must construct incentive schemes to get them to behave at least partly according to the principal's interests. The principal-agent problem is that of designing the incentive scheme.

Definition: An auction is the process of buying and selling goods by offering them up for bid, taking bids, and then selling the item to the winning bidder. In economic theory, an auction is a method for determining the value of a commodity that has an undetermined or variable price.

Definition: Price Discrimination is the practice of charging different prices for the same product of the same cost in different market segments. It also refers to market segmentation.

Listen to program :

http://www.publicradio.org/tools/media/player/news/midday/2007/10/15_midday1.ram

The Prize in Economic Sciences in Memory of Alfred Nobel 2007 :

http://nobelprize.org/nobel_prizes/economics/laureates/2007/index.html

Also in Chinese at http://wongtc.blogspot.com/2007/10/3.html

Say no to "profiteering"--- A new name of "sukuk" for "bonds"?

I want to echo the idea put forward by the Chief Executive Donald Tsang of developing an Islamic Bond Market in Hong Kong as mentioned in his 2007-08 Policy Address this morning.

We're told that "Islamic finance offers huge potential for development and to further consolidate Hong Kong's position as a global financial centre. The Hong Kong Monetary Authority has set up a team to study related issues and make recommendations for the early introduction of Islamic debt offerings in Hong Kong."

According to the fundamental doctrine of the Islamic (Shari'a) law, profits and interests that generated from the assets are prohibited. That is the interest-bearing bonds are not allowed to be bought and sold in Islam.

The term "sukuk" is the Arabic name for a financial certificate but can be seen as an Islamic equivalent of bond. They are monetary denominated participation certificates of equal unit value to be issued to investors to represent their proportionate share in the ownership of the underlying assets and a pro rata share in the income generated by those assets. Sukuk are securities that comply with the Islamic rule.

Those sukuk(securities) often take the form of shares or bonds issued by a limited liability company to which certain rights in assets have been transferred. Empirical evidence shows that sukuk were a product extensively used during medieval Islam for the transferring of financial obligations originated from trade and other commercial activities. It was done in conformity with the Shariah(回教律法).

There are two main kinds of Sukuk (financial obligations, bonds)--- Ijarah Sukuk & Musharaka Sukuk :

--- Ijarah Sukuk are issued by a lessor and backed primarily by a lease stream from a credit lessee. As Shari'ah (Islamic law) frowns on the payment of interest, Ijarah Sukuk transactions work by passing a lease stream through to the holder of the Ijarah Sukuk, rather than being structured as an interest bearing loan secured by a pledge of assets.

--- Musharaka Sukuk represent a fractional ownership in the capital a private commercial enterprise or project. Sukuk holders are entitled to a proportionate share of the profits or returns of the enterprise(bond issuer) and assume a proportionate share of the losses.

From the modern Islamic point of view, The essence of sukuk lies in the concept of monetization of assets or securities through the "process of issuance of sukuk" (taskeek). Its great potential is its ability in discounting an asset's future cash flow into present monetary value. The sukuk certificate holders can earn a pro rata share in the receivables generated by the assets and in any extra value appreciation that is realised once they are sold in the market.

However, I think it is nothing more than the unique concept of "interest" just put simple and straight forward by the last century 30's great economist, Irving Fisher. I wonder whether it's merely just a new name of "sukuk" substitutable for "bonds" or just the reverse but doing the same "sacred" thing (or "dirty" act?). It is because they are actually the same thing and same "concept" in terms of modern economics even though some Islams disagree. Pardon me if my words are found to be offensive to those Islamic fundamentalists.

Try to remember that .....

Fisherian Concept of Capital & Interest:Irving Fisher (1867-1947) Asserted His Remarkable Theory of Interest That.....

Interest as the price of earlier availability;

Interest as the same as premium paid for stream of service over time periodically;

Interest as the income for the growth of a good;

Interest is the yield from the net productivity of investment: that is the increase in income created by investment today (e.g. invest in infra-structure) to transform some resources into a more highly valued form for later use;

Thus, Interest is a stream of receipts (income or services) available at different periods of time. It is a flow concept.

Also written in Chinese by tcwong at

http://wongtc.blogspot.com/2007/10/blog-post.html