Game Theory

Excellent article from MSNBC about new research on using slime mold to model efficient networks.

This is more evidence to something which I have been suspecting for some time- that evolution follows rules of economic efficiency to maximize the use of resources. This is a great example, but I find the same reasoning behind a lot of human morality and emotion.

Take anger. Game theory, in games like the prisoner’s dilemma, show that defecting from agreements in repeated games can be prevented by the threat of retaliation. However, after defection has taken place, the best strategy is to consider a sunk cost and go back to cooperation. But humans have evolved the emotion of anger at being taken advantage of as a threat of retaliation. Similarly, affection and trust develop when spending more time with another person; this helps to encourage cooperation between people who repeat the game many times, and relatively discourage it between people with infrequent interactions. As humans were evolving, such emotional considerations helped promote efficiency when there was no government to protect private property or punish the breaking of agreements.

Eric C. Sun, et al, have a new working paper about the effects and effectiveness of investment in cancer research. NBER abstract here. Also see Stephen Dubner of Freakonomics discussing the findings here. I find a passage from Dubner particularly interesting:

Believe it or not, this flat mortality rate actually hides some good news. Over the same period, age-adjusted mortality from cardiovascular disease has plummeted, from nearly 600 people per 100,000 to well below 300. What does this mean? Many people who in previous generations would have died from heart disease are now living long enough to die from cancer instead.

This is the way health progress is made, and why encouraging investment in new technologies is so critical. Progress might only extend life a few years, but the findings of the article show that

Between 1988 and 2000, life expectancy for cancer patients increased by roughly four years, and the average willingness-to-pay for these survival gains was roughly $322,000. Improvements in cancer survival during this period created 23 million additional life-years and roughly $1.9 trillion of additional social value, implying that the average life-year was worth approximately $82,000 to its recipient.

These incremental advances are worth so much to people at the end of life and there is such potential for mutually beneficial exchange that eventually this process leads to great progress. It is easy, though, to only see a small piece of progress at a time and say that changing incentives for health companies will not do much damage; that is the situation with health care reform in the US now.

Uwe Reinhart from Princeton writes about reimportation of drugs from Canada and other countries.

This is a major reason why I am against universal healthcare. Almost all such systems include low prices for drugs which are achieved by bargaining power from the government. We can think of it in a game like this:

You are a pharmaceutical company. Suppose you have only one country to sell to. You can invest in R&D for a new drug, and you may or may not succeed in designing it. If you succeed, the drug will cost $5 per bottle to produce. If you succeed, the government chooses a price, above which it will not buy any of your drug (and like in most systems, its citizens cannot buy the drug themselves outside of the government system). Then you can either accept, and sell the drug for the government’s price, or not sell at all. What price does the government set? Trying to keep prices low, it chooses $6. Now it is in your best interest to sell the drug once you have it, and the citizens get very low prices. Now you are thinking about investing again, and you calculate that you would need to make a profit of $10 per bottle to make money on your investment. Do you do it? Of course not, because the government will bargain you down to only $1 since they know it is better for you to take it than to not sell at all. So you do not make the drug, and medical progress slows way down. This type of monopsony, which is also present with labor unions, is just as harmful to the economy as monopolies from companies.

The reason it works for Europe and Canada right now is that the pharm companies can make up their investments by charging the high prices in the US, where they are allowed to use the market. Since the US is such a large market, they view US sales as recouping their investment and Europe and Canada simply as added profit. Basically, Europe and Canada are taking advantage of our paying for drugs to use them for very cheap. If they paid as much as we did, pharm companies could do even more R&D with higher expected profits and we could all enjoy better drugs. It’s very similar to a tariff on our goods; they prevent our companies from making full profit in their countries. Normally, this type of thing causes anger among the civilians and we respond with tariffs of our own, which hurt us a little but hurt them more. This time, however, we seem content to just let them free ride. I would prefer to make the companies not allowed to sell in any country that has such a monopsony, which they could handle because of the low profits from those regions, but it seems international relations are too fragile for that.