Monday, January 28, 2008

Can you identify this famous economist?

Can you identify this famous economist by the following clues?
  • A sophist, but not a sophomore.
  • Sa langue était française.
  • A solar energy advocate?
If you can identify this economist, briefly describe his major contribution to the field of economics.

Congratulations to Yaoguang Li for correctly identifying Frederic Bastiat. Bastiat was an early 19th century French free-trade economist that authored a number of satirical pieces in defense of free-markets. Perhaps his best known work is the Petition of the Candlemakers (look for Section 1.7).

Monday, January 21, 2008

A Separating Equilibrium?

Frodo, a local auto dealership, wants to hire a salesperson. Automobiles are sold for $20,000 each. A good salesperson can sell 8 autos a month, and a bad salesperson can sell only 1. Salespeople at Frodo earn a base salary of $1000 each month plus a commission per auto sold. If we assume that good salespeople can earn $5000 a month at another job and bad salespeople can earn $2000 a month at another job, in what range must the commission percentage fall if Frodo wishes to hire only good salespeople and it can't tell good from bad salespeople during the initial interview? Show your work.

Congratulations to Tiffany McKee on being the first to submit a correct answer. Read Tiffany's answer in the comment below.

The notion of a separating equilibrium is part of a larger literature on the economics of signalling. Signalling becomes particularly important in economic situations involving asymmetric information (i.e., when one person has more information than another.) In the case above, Frodo is not quite sure which type of salesperson he's interviewing. However, by carefully setting the commission rate, Frodo is able to get the job candidates to "reveal" their true identity during the hiring process.