Strands
These aims are pursued by applying the experimental method to three specific areas (strands) of economic theory: individual decisions, strategic decisions and markets (Davis and Holt 1993; Roth 1995).
Each objective can be achieved in one specific area, or strand; although, when experimental economics was developed, in every strand researchers focused on testing theories and only successively the other two objectives became important.Experiments on individual decisions aim to analyse, in a laboratory, individual decision-making processes. In economics, the starting point is the theory of rational choice: individuals make choices following criteria of perfect rationality with the goal to maximize utility (or profits). In 1944, von Neumann and Morgenstern’s expected utility theory provided rational choice with a more specific and formalized configuration. With respect to individual decision-making, experimental economics first highlighted the lack of realism in expected utility theory, showing that subjects are characterized by bounded rationality and, as a consequence, that their choices are not necessarily maximizing choice: key contributions are Allais’s paradox and prospect theory. Following these core contributions, a large literature has shown some bias (from traditional economic assumptions) that characterize human behaviour: they occur with regularity and therefore, according to experimental economics, can be used to build a model of economic behaviours standardized but closer to reality.
Experiments on strategic decisions aim to analyse those decision-making processes where the results of a choice taken by each subject also depend on the choices made by the others (therefore called strategic). The starting point is game theory, introduced in economics by von Neumann and Morgenstern (1944). In particular, a dominant strategy, defined as the best choice that an individual can take regardless of the choice taken by the others, is the equivalent in strategic decision-making of what maximization is in individual decision-making.
A key contribution is, in particular, the “prisoner’s dilemma”. It shows that, following expected utility theory and dominant strategies, the subject reaches a suboptimal equilibrium, named a Nash equilibrium, and not a Paretian equilibrium. The prisoner’s dilemma is central for experimental economics because when it is submitted to experimental individuals they tend to carry out behaviours characterized by a level of social cooperation with greater respect to the assumptions of rational choice. Similar results stem from the ultimatum game. It is a game that analyses strategic choices in which subjects do not choose simultaneously but in different and immediately subsequent moments.The third strand of experimental economics is the experiments on markets. The typified experiment is the “double auction” one (Smith 1962, 1964), which reproduces in a laboratory a market situation where experimental subjects are divided into buyers and sellers, both provided with incomplete information. The experimental results are that the quantity of goods exchanged and the price of exchange approximate those predicted by the theory of Walrasian equilibrium.