Experimental economics is the application of experimental methods to study economic questions.

Data In the pursuit of knowledge, data (; ) is a collection of discrete Value_(semiotics), values that convey information, describing quantity, qualitative property, quality, fact, statistics, other basic units of meaning, or simply sequences of sy ...

collected in experiments are used to estimate

effect size In statistics, an effect size is a value measuring the strength of the relationship between two variables in a population, or a sample-based estimate of that quantity. It can refer to the value of a statistic calculated from a sample of data, the ...

, test the validity of economic theories, and illuminate market mechanisms. Economic experiments usually use cash to motivate subjects, in order to mimic real-world incentives. Experiments are used to help understand how and why markets and other exchange systems function as they do. Experimental economics have also expanded to understand institutions and the law (experimental law and economics). A fundamental aspect of the subject is

design of experiments The design of experiments (DOE, DOX, or experimental design) is the design of any task that aims to describe and explain the variation of information under conditions that are hypothesized to reflect the variation. The term is generally associ ...

. Experiments may be conducted in the

field Field may refer to: Expanses of open ground * Field (agriculture), an area of land used for agricultural purposes * Airfield, an aerodrome that lacks the infrastructure of an airport * Battlefield * Lawn, an area of mowed grass * Meadow, a grass ...

or in laboratory settings, whether of individual or

group A group is a number of persons or things that are located, gathered, or classed together. Groups of people * Cultural group, a group whose members share the same cultural identity * Ethnic group, a group whose members share the same ethnic ide ...

behavior. Variants of the subject outside such formal confines include

natural Nature, in the broadest sense, is the physical world or universe. "Nature" can refer to the phenomena of the physical world, and also to life in general. The study of nature is a large, if not the only, part of science. Although humans are ...

and

quasi-natural experiment A quasi-experiment is an empirical interventional study used to estimate the causal impact of an intervention on target population without random assignment. Quasi-experimental research shares similarities with the traditional experimental desig ...

Experimental topics

One can loosely classify economic experiments using the following topics: *

Market Market is a term used to describe concepts such as: *Market (economics), system in which parties engage in transactions according to supply and demand *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an ...

s * Games *

Evolutionary game theory Evolutionary game theory (EGT) is the application of game theory to evolving populations in biology. It defines a framework of contests, strategies, and analytics into which Darwinian competition can be modelled. It originated in 1973 with John M ...

* Decision making * Bargaining * Contracts *

Auctions An auction is usually a process of buying and selling goods or services by offering them up for bids, taking bids, and then selling the item to the highest bidder or buying the item from the lowest bidder. Some exceptions to this definition ex ...

* Coordination * Social Preferences * Learning * Matching * Field Experiments Within

economics education Economics education or economic education is a field within economics that focuses on two main themes: *The current state of, and efforts to improve, the economics curriculum, materials and pedagogical techniques used to teach economics at all e ...

, one application involves experiments used in the teaching of economics. An alternative approach with experimental dimensions is agent-based computational modeling. It is important to consider the potential and constraints of games for understanding rational behavior and solving human conflict.

Coordination games

Coordination games are games with multiple

pure strategy In game theory, a player's strategy is any of the options which they choose in a setting where the outcome depends ''not only'' on their own actions ''but'' on the actions of others. The discipline mainly concerns the action of a player in a game ...

Nash equilibria In game theory, the Nash equilibrium, named after the mathematician John Nash, is the most common way to define the solution of a non-cooperative game involving two or more players. In a Nash equilibrium, each player is assumed to know the equili ...

. There are two general sets of questions that experimental economists typically ask when examining such games: (1) Can laboratory subjects coordinate, or learn to coordinate, on one of multiple equilibria, and if so are there general principles that can help predict which equilibrium is likely to be chosen? (2) Can laboratory subjects coordinate, or learn to coordinate, on the Pareto best equilibrium and if not, are there conditions or mechanisms which would help subjects coordinate on the Pareto best equilibrium? Deductive selection principles are those that allow predictions based on the properties of the game alone. Inductive selection principles are those that allow predictions based on characterizations of dynamics. Under some conditions at least groups of experimental subjects can coordinate even complex non-obvious asymmetric Pareto-best equilibria. This is even though all subjects decide simultaneously and independently without communication. The way by which this happens is not yet fully understood.

Learning experiments

Economic theories often assume that economic incentives can shape behavior even when individual agents have limited understanding of the environment. The relationship between economic incentives and outcomes may be indirect: The economic incentives determine the agents’ experience, and these experiences may then drive future actions. Learning experiments can be classified as individual choice tasks or games, where games typically refer to strategic interactions of two or more players. Oftentimes, the general patterns of learning behavior can be best illustrated with individual choice tasks. In games of two players or more, the subjects often form beliefs about what actions the other subjects are taking and these beliefs are updated over time. This is known as belief learning. Subjects also tend to make the same decisions that have rewarded them with high payoffs in the past. This is known as

reinforcement learning Reinforcement learning (RL) is an area of machine learning concerned with how intelligent agents ought to take actions in an environment in order to maximize the notion of cumulative reward. Reinforcement learning is one of three basic machine ...

. Until the 1990s, simple adaptive models, such as

Cournot competition Cournot competition is an economic model used to describe an industry structure in which companies compete on the amount of output they will produce, which they decide on independently of each other and at the same time. It is named after Antoine A ...

fictitious play In game theory, fictitious play is a learning rule first introduced by George W. Brown. In it, each player presumes that the opponents are playing stationary (possibly mixed) strategies. At each round, each player thus best responds to the empiri ...

, were generally used. In the mid-1990s,

Alvin E. Roth Alvin Eliot Roth (born December 18, 1951) is an American academic. He is the Craig and Susan McCaw professor of economics at Stanford University and the Gund professor of economics and business administration emeritus at Harvard University.

and Ido Erev demonstrated that reinforcement learning can make useful predictions in experimental games. In 1999,

Colin Camerer Colin Farrell Camerer (born December 4, 1959) is an American behavioral economist, and Robert Kirby Professor of Behavioral Finance and Economics at the California Institute of Technology (Caltech). Background A former child prodigy, Camerer ...

and Teck-Hua Ho introduced Experience Weighted Attraction (EWA), a general model that incorporated reinforcement and belief learning, and shows that fictitious play is mathematically equivalent to generalized reinforcement, provided weights are placed on past history. Criticisms of EWA include overfitting due to many parameters, lack of generality over games, and the possibility that the interpretation of EWA parameters may be difficult. Overfitting is addressed by estimating parameters on some of the experimental periods or experimental subjects and forecasting behavior in the remaining sample (if models are overfitting, these out-of-sample validation forecasts will be much less accurate than in-sample fits, which they generally are not). Generality in games is addressed by replacing fixed parameters with "self-tuning" functions of experience, allowing pseudo-parameters to change over the course of a game and to also vary systematically across games. Modern experimental economists have done much notable work recently. Roberto Weber has raised issues of learning without feedback. David Cooper and John Kagel have investigated types of learning over similar strategies. Ido Erev and Greg Barron have looked at learning in cognitive strategies. Dale Stahl has characterized learning over decision making rules. Charles A. Holt has studied logit learning in different kinds of games, including games with multiple equilibria. Wilfred Amaldoss has looked at interesting applications of EWA in marketing. Amnon Rapoport, Jim Parco and Ryan Murphy have investigated reinforcement-based adaptive learning models in one of the most celebrated paradoxes in game theory known as the

centipede game In game theory, the centipede game, first introduced by Robert Rosenthal in 1981, is an extensive form game in which two players take turns choosing either to take a slightly larger share of an increasing pot, or to pass the pot to the other play ...

Market games

Edward Chamberlin Edward Hastings Chamberlin (May 18, 1899 – July 16, 1967) was an American economist. He was born in La Conner, Washington, and died in Cambridge, Massachusetts. Chamberlin studied first at the University of Iowa (where he was influenced by F ...

is thought to have conducted "not only the first market experiment, but also the first economic experiment of any kind." Vernon Smith, drawing on Chamberlin's work, but also modifying it in key respects, conducted pioneering economics experiments on the convergence of prices and quantities to their theoretical competitive equilibrium values in experimental markets. Smith studied the behavior of "buyers" and "sellers", who are told how much they "value" a fictitious commodity and then are asked to competitively "bid" or "ask" on these commodities following the rules of various real world market institutions (e.g., the Double auction as well the English and Dutch

auction An auction is usually a process of buying and selling goods or services by offering them up for bids, taking bids, and then selling the item to the highest bidder or buying the item from the lowest bidder. Some exceptions to this definition ex ...

s). Smith found that in some forms of centralized trading, prices and quantities traded in such markets converge on the values that would be predicted by the economic theory of perfect competition, despite the conditions not meeting many of the assumptions of perfect competition (large numbers, perfect information). Over the years, Smith pioneered – along with other collaborators – the use of controlled laboratory experiments in economics, and established it as a legitimate tool in economics and other related fields. Charles Plott of the

California Institute of Technology The California Institute of Technology (branded as Caltech or CIT)The university itself only spells its short form as "Caltech"; the institution considers other spellings such a"Cal Tech" and "CalTech" incorrect. The institute is also occasional ...

collaborated with Smith in the 1970s and pioneered experiments in political science, as well as using experiments to inform economic design or engineering to inform policies. In 2002, Smith was awarded (jointly with Daniel Kahneman) the Bank of Sweden Prize in Economic Sciences "for having established laboratory experiments as a tool in empirical economic analysis, especially in the study of alternative market mechanisms".

Finance

Experimental finance studies

financial markets A financial market is a market in which people trade financial securities and derivatives at low transaction costs. Some of the securities include stocks and bonds, raw materials and precious metals, which are known in the financial ma ...

with the goals of establishing different market settings and environments to observe experimentally and analyze agents' behavior and the resulting characteristics of trading flows, information diffusion and aggregation, price setting mechanism and returns processes. Presently, researchers use simulation software to conduct their research. For instance, experiments have manipulated

information asymmetry In contract theory and economics, information asymmetry deals with the study of decisions in transactions where one party has more or better information than the other. Information asymmetry creates an imbalance of power in transactions, which ca ...

about the holding value of a bond or a share on the pricing for those who don't have enough information, in order to study stock market bubbles.

Social preferences

The term "social preferences" refers to the concern (or lack thereof) that people have for each other's well-being, and it encompasses altruism, spitefulness, tastes for equality, and tastes for reciprocity. Experiments on social preferences generally study economic games including the

dictator game The dictator game is a popular experimental instrument in social psychology and economics, a derivative of the ultimatum game. The term "game" is a misnomer because it captures a decision by a single player: to send money to another or not. Thus, ...

, the

ultimatum game The ultimatum game is a game that has become a popular instrument of economic experiments. An early description is by Nobel laureate John Harsanyi in 1961. One player, the proposer, is endowed with a sum of money. The proposer is tasked with s ...

, the trust game, the

gift-exchange game The gift-exchange game is a game that was introduced by George Akerlof and Janet Yellen to model labor relations. The simplest form of the game involves two players – an employee and an employer. The employer first decides whether to award a h ...

, the

public goods game The public goods game is a standard of experimental economics. In the basic game, subjects secretly choose how many of their private tokens to put into a public pot. The tokens in this pot are multiplied by a factor (greater than one and less tha ...

, and modifications to these canonical settings. As one example of results,

experiments have shown that people are generally willing to sacrifice monetary rewards when offered low allocations, thus behaving inconsistently with simple models of self-interest. Economic experiments have measured how this deviation varies across cultures.

Contracts

Contract theory is concerned with providing incentives in situations in which some variables cannot be observed by all parties. Hence, contract theory is difficult to test in the field: If the researcher could verify the relevant variables, then the contractual parties could contract on these variables, hence any interesting contract-theoretic problem would disappear. Yet, in laboratory experiments it is possible to directly test contract-theoretic models. For instance, researchers have experimentally studied moral hazard theory, adverse selection theory, exclusive contracting, deferred compensation, the hold-up problem, flexible versus rigid contracts, and models with endogenous information structures.

Agent-based computational modeling

Agent-based computational modeling is a relatively recent method in economics with experimental dimensions.Scott E. Page, 2008. "agent-based models," ''

The New Palgrave Dictionary of Economics ''The New Palgrave Dictionary of Economics'' (2018), 3rd ed., is a twenty-volume reference work on economics published by Palgrave Macmillan. It contains around 3,000 entries, including many classic essays from the original Inglis Palgrave Diction ...

'', 2nd Edition
Abstract.
/ref> Here the focus is on economic processes, including whole

economies An economy is an area of the production, distribution and trade, as well as consumption of goods and services. In general, it is defined as a social domain that emphasize the practices, discourses, and material expressions associated with the ...

, as dynamic systems of interacting agents, an application of the

complex adaptive system A complex adaptive system is a system that is '' complex'' in that it is a dynamic network of interactions, but the behavior of the ensemble may not be predictable according to the behavior of the components. It is '' adaptive'' in that the indiv ...

s paradigm. The "agent" refers to "computational objects modeled as interacting according to rules," not real people. Agents can represent social and/or physical entities. Starting from initial conditions determined by the modeler, an ACE model develops forward through time driven solely by agent interactions. Issues include those common to experimental economics in general and by comparison as well as development of a common framework for empirical validation and resolving open questions in agent-based modeling.

Methodology

Guidelines

Experimental economists generally adhere to the following methodological guidelines: * Incentivize subjects with real monetary payoffs. * Publish full experimental instructions. * Do not use deception. * Avoid introducing specific, concrete context.

Critiques

The above guidelines have developed in large part to address two central critiques. Specifically, economics experiments are often challenged because of concerns about their "internal validity" and "external validity", for example, that they are not applicable models for many types of economic behavior, so the experiments simply aren't good enough to produce useful answers. However, none of the critiques towards this methodology are specific to it, as they are immediately applicable to either theoretical or empirical approaches or both.

Software tools

The most famous software for conducting experimental economics research is z-Tree, which is developed by Urs Fischbacher from 1998 on. It had about 9460 citation results counted on

Google Scholar Google Scholar is a freely accessible web search engine that indexes the full text or metadata of scholarly literature across an array of publishing formats and disciplines. Released in beta in November 2004, the Google Scholar index includes ...

in February 2020. It transcripts as ''Zurich Toolbox for Readymade Economic Experiments'' and was one of the reasons for the Joachim Herz Research prize for "Best research work" awarded to Fischbacher in Dezember 2016. z-Tree is a software, which runs on a network of computers in a research lab. One of the computers is used by experimenters and the other computers are used by the subjects of experiment. The setup of an experiment is variable and can be defined in the imperative language z-Tree programming language. This language allows the experimenter to set up a variety of experiments and additional surveys. Alternatively, there is a big number of competing alternative software. Following table presents a growing list of software tools for experimental economics:

Notes

References

* Battalio, Raymond C., ''et al.'', 1973. "A Test of Consumer Demand Theory Using Observations of Individual Consumer Purchases," ''Economic Inquiry'', 11(4), pp
411
��428 * Bayer, R. C., & Renou, L. (2011)
Cognitive abilities and behavior in strategic-form games
Discussion Papers in Economics 11/16, Department of Economics, University of Leicester * Camerer, Colin,

George Loewenstein George Loewenstein (born August 9, 1955) is an American educator and economist. He is the Herbert A. Simon Professor of Economics and Psychology in the Social and Decision Sciences Department at Carnegie Mellon University and director of the C ...

, and

Drazen Prelec Drazen Prelec (born 1955 in Yugoslavia) is a professor of management science and economics in the MIT Sloan School of Management, and holds appointments in the Department of Economics and in the Department of Brain and Cognitive Sciences at MIT as ...

, 2005. "Neuroeconomics: How Neuroscience Can Inform Economics," ''Journal of Economic Literature'', 43(1), pp
9–64
* Chamberlin, Edward H., 1948. "An Experimental Imperfect Market," ''Journal of Political Economy'', 56(2), pp
95
��108 * * Davis, Douglas D., and Charles A. Holt, 1993. ''Experimental Economics'', Princeton
preview
an
ch. 1
(complete) * Falk, Armin and Simon Gächter, 2008. "experimental labour economics," ''The New Palgrave Dictionary of Economics'', 2nd Edition
Abstract
an
galley proof
* Friedman, Daniel, and Shyam Sunder, 1994. ''Experimental Methods: A Primer for Economists'', Cambridge University Press. Description/content
links
and scrollabl
preview
* Grether, David M., and Charles R. Plott, 1979. "Economic Theory of Choice and the Preference Reversal Phenomenon," ''American Economic Review'', 69(4 ), pp
623–638
* Guala, Francesco, 2005. ''The Methodology of Experimental Economics'', Cambridge. Description/content
links
and ch.
excerpt
* Gunnthorsdottir Anna, Vragov Roumen, Seifert Stefan and Kevin McCabe, 2010. "Near-efficient equilibria in contribution-based competitive grouping," Journal of Public Economics, 94, pp. 987–99

* Hertwig, Ralph, and Andreas Ortmann, 2001. "Experimental Practices in Economics : A Methodological Challenge for Psychologists?" ''Behavioral and Brain Sciences'', 24(3), pp
383–403
* Holt, Charles A., and Susan K. Laury, 2002. "Risk Aversion and Incentive Effects," ''American Economic Review'', 92(5) pp
1644–1655
* Kagel, John H. ''et al.'', 1975. "Experimental Studies of Consumer Demand Behavior Using Laboratory Animals," ''Economic Inquiry'', 13(1), pp. 22–38
Abstract
* Kagel, John H., and Alvin E. Roth, ed., 1995. ''The Handbook of Experimental Economics'', Princeton University Press

an

* Daniel Kahneman, Kahneman Daniel, Jack L. Knetsch, and

Richard Thaler Richard H. Thaler (; born September 12, 1945) is an American economist and the Charles R. Walgreen Distinguished Service Professor of Behavioral Science and Economics at the University of Chicago Booth School of Business. In 2015, Thaler was p ...

, 1986. "Fairness as a Constraint on Profit Seeking: Entitlements in the Market," ''American Economic Review,'' 76(4), pp
728–741
* Plott, Charles R., 1982. "Industrial Organization Theory and Experimental Economics," ''Journal of Economic Literature'', 20(4), pp
1485
��1527. Reprinted in Plott, 2001, ''Market Institutions and Price Discovery'', pp
18–59
Elgar.
Description
* _____ and Susan K. Laury, 2002. "Risk Aversion and Incentive Effects," ''American Economic Review'', 92(5) pp
1644–1655
* Plott, Charles R., and Vernon L. Smith, 2008. ''Handbook of Experimental Economics Results'', v. 1, Elsevier
Description
and chapter-lin
previews
* Roth, Alvin E., and Michael W Malouf, 1979. "Game-theoretic Models and the Role of Information in Bargaining," ''Psychological Review'', 86(6), pp
574–594
* Smith, Vernon L., 1962. "An Experimental Study of Competitive Market Behavior," '' Journal of Political Economy'', 70(2), pp
111
��137 * ____, 1982. "Microeconomic Systems as an Experimental Science," ''American Economic Review'', 72(5), pp
923–955
* _____, 1991. ''Papers in Experimental Economics'' 962–88 Cambridge
Description
and chapter-previe
links
* _____, 9872008. "Experimental Methods in Economics," ''The New Palgrave Dictionary of Economics'', 2nd Edition
Abstract
* {{Authority control Mathematical and quantitative methods (economics) Social science experiments