Markets do not come out of thin air, they are created by humans to achieve certain aims. How well a market is equipped to achieve these aims depends largely on the rules that apply there.Market design is dedicated to analysing and optimising markets by designing these rules.

Prof. Dr. Vitali Gretschko on different application areas of market design.
Prof. Dr. Vitali Gretschko on different application areas of market design.

In the interview, ZEW economist Professor Vitali Gretschko talks about different areas where market design can be applied.

What’s market design about?

We look at markets and think of the rules and framework conditions that lead to these markets functioning particularly well. Market designers do not prove general theorems that apply in all markets, but instead look at a specific market and define the optimal rules for it. They then test these rules and sometimes help implement them. This means that, as a market designer, you make a specific statement about how this market can be improved. This involves, in particular, also looking at the fine details of the market. You take the knowledge from science and carry it into practice. At the same time, you don’t shy away from actively reaching out to practitioners to work closely with them and learn from them.

How can market design help tackle the COVID-19 crisis?

At the beginning of the COVID-19 crisis, there was a shortage of medical supplies because the stockpiles were not prepared for crisis mode. Hospitals suddenly could no longer meet their demand. So how can market design help? Market designers Axel Ockenfels, Peter Cramton and Robert Wilson have come up with a proposal to deal with this problem. Their idea is to establish a centralised clearing house that collects data on which hospitals have which medical goods available at a given time. The clearing house could potentially also purchase medical goods from manufacturers. The question then is: How are the purchased goods distributed among the hospitals based on the information from the clearing house? First, it is necessary to find out where the goods are most needed. For example, assuming there is an outbreak in Hamburg and at the same time no outbreak in Munich, it would make sense to transfer medical goods from Munich to Hamburg. The proposed solution is to set up a fictitious market and develop a medical currency, of which each hospital would receive a basic amount. With this medical currency, the hospitals could then buy goods via the central clearing house. For example, the hospital in Hamburg could purchase ventilators from Munich.

Where else can market design be applied in practice?

Another example is the allocation of nursery school places. At first glance, you might wonder: is this a market at all? Nursery school places are a scarce commodity with two sides that we bring together: on the one hand, the providers of the nursery schools and on the other hand, the parents. These places should be allocated as efficiently as possible and take into account the preferred choices of parents. So it can definitely be seen as a market, even if there is no price in the narrower sense. We are working with some districts and youth welfare offices to determine rules for a centralised allocation. For this, parents hand in a list of preferences. The providers and the public nursery schools have a priority list with criteria according to which children get priority at a certain nursery school. With these lists, an algorithm for allocation is developed. This type of allocation is stable, which means that there is no possibility to improve this allocation so that both sides of the market are satisfied. The second feature of the allocation is that it is strategy-proof. There is no incentive for parents to strategically fill in the preference list. The algorithm always results in the best possible nursery place being obtained if the preferences are truthfully stated.




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