If you love markets, it’s a good time to be alive. Almost everything you could ever need is on sale in online marketplaces. The sharing economy has extended existing markets for hotels and taxis: if you are traveling, you can book a room in someone’s home, and be driven there by someone you hailed on Uber or Lyft. Markets govern financial trading, ad rates, and the amount you pay for jeans.
In most cases, these markets run on currency—if you want something, use money to pay for it. Alternative markets are relegated to neighborhood babysitting co-ops and barter exchanges. And fake-money markets sound like they belong in the board game Monopoly.
But a study of an established fake-money market has Chicago Booth’s Canice Prendergast rethinking the possibilities for these unorthodox systems. Prendergast analyzed data from a fake-money market he helped establish for Chicago-based Feeding America, a nationwide nonprofit that matches food from manufacturers with food banks that need it.
The benefits of the market far exceeded his expectations. “It was a bit of an eye-opener to me to see how big the gains were,” says Prendergast, who studied the market’s operations between 2005 and 2011, totaling about 65,000 transactions. “I knew things seemed to be going well, but I didn’t realize quite the extent to which they were going well.”
The market, which Feeding America calls the Choice System, greatly increased the amount of food collected by the food banks. Within seven months of implementation in 2005, Feeding America’s food supply increased roughly 36 percent. Between 2006 and 2011, its annual supply of food to give away rose to 340 million pounds, from 220 million. “To put this from the perspective of another lens,” Prendergast writes, “an increase in supply of 100 million pounds a year is equivalent to providing a full day’s food for roughly an extra 60,000 people every day.”
With the magnitude of the market’s success, Prendergast says, “I can see this being replicated.” In fact, it’s being replicated, in and out of Feeding America.
Fake money promotes fairness
Money works fine in most markets. Buyers and sellers bring money, goods, and information to a marketplace, and then haggle, deal, or trade their way to a price. Markets are adept at making needs visible when consumers have equal resources. Market prices, and the incentive for consumers to conserve currency for future purchases, ensure that goods go to the buyers who need them most.
A fake-money market works exactly the same way as a real market, but uses a play-money substitute for real currency. Typically the organization holding the goods to distribute sets up a market where those goods are auctioned off on a regular schedule. The bidders use points or shares that are distributed to them equally (or the fair equivalent of equally) in advance.
Fake-money markets are best suited for situations where people want the benefits of a market but have a compelling reason to think that a real-money market wouldn’t be fair, explains Chicago Booth’s Eric Budish, who recently revamped a fake-money market for Wharton. People may want the efficiency a market can bring but also want participants involved to be armed with a defined amount of “money.”
For example, at Booth and other graduate schools, some courses are more popular than others. Schools could allocate seats using a conventional market, by ramping up prices for the most-popular courses. But to ensure that rich students don’t have an unfair advantage, some schools instead use fake-money markets—they give first-year students a certain number of points they can use through their graduate careers to bid on seats in courses they want. Popular courses require the most points, rather than the most cash.
Course-allocation auctions are a textbook example of fake-money markets, largely because few other examples exist. There are neighborhood babysitting co-ops that use points, and there are barter systems that swap one good or skill for another. Some hospitals are using fake-money markets to schedule emergency-room nurses. But fake-money markets are otherwise little used because, as Budish points out, real-money markets typically solve most allocation problems. Some employers do auction off in-demand vacation days, but more probably offer overtime pay for holiday work, and employees who need the extra money will choose to work those days.
Many employers do the latter, but that leaves hanging the issue of fairness: people who have enough money have a better chance of taking holidays off. Fake-money markets aren’t a replacement for using money; they offer something different. They are, says Budish, “a way of realizing the benefits of using markets in corners of the economy where that didn’t seem possible.” Prendergast’s research, as well as Budish’s study of Wharton’s system, suggests that in the right circumstances, fake-money markets can provide extraordinary benefits.
Fake money meets food banks
For Feeding America, the fake-money market resolved distribution problems that real money never could. A decade ago, Feeding America (then called America’s Second Harvest) approached four faculty at Chicago Booth—Harry L. Davis, Robert S. Hamada, Donald D. Eisenstein, and Prendergast—to join a task force working to solve several issues. Feeding America wanted a more efficient and transparent way of distributing donations to member food banks around the country.