The two 2006 Nobel Prizes in Economics

economics ▪ nobel prize ▪

To my delight, this year, the Nobel Prize committee acknowledged two contributions in economics. We found out the first, Edmund Phelps, early last week. By the end of the week, the second one was announced. It's for Bangladeshi Muhammad Yunus, shared with the poor's bank that he founded, Grameen Bank. This second Nobel is in the form of the Nobel Peace Prize.

I think this is a well-deserved prize. For all his work's brilliance, Yunus will never get a Nobel Prize in economics... because, instead of dabbling in theory, he went for the practical.

He, and many financial economists, knew the theory — that the barrier to opening access to financing for the poor is the high monitoring cost from the so-called "principal-agent problem". But nobody thought of using the watchful eyes of fellow poor borrowers to solve this problem. His solution — made concrete in his microfinancing scheme to tightly-knit women-managed groups (instead of individuals) — allowed the poor to access the opportunity to better their lives.

I think it was quite a stretch for the Committee to select Yunus for the Nobel Peace Prize, but nonetheless it brings me joy. This decision signals the Committee's acknowledgment, not only of Yunus's significant contribution to poverty alleviation, but also of the fact that peace is more than just the absence of war.

PS: While we are talking about financial innovation, I've just acquired two books on financial market liberalization and development: Mishkin's The Next Great Globalization: How Disadvantaged Nations Can Harness Their Financial Systems to Get Rich and Rajan and Zingales's Saving Capitalism from the Capitalists.

Reading them, I am becoming more and more convinced that financial sector development is key to poverty alleviation, and that careful but accelerated financial liberalization is urgent. Here is why, from Mishkin:

[The] only way for poor countries to get rich is for them to provide incentives for capital (including capital devoted to health care and education) to be supplied to its most productive uses.

Update: Here is an article from M. Yunus on why microfinance, courtesy of Greg Mankiw.

Update (17/10): Apparently, it's not the first time the Nobel Peace Prize committee stretched its definition of "peace", with odder winners in the past.