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Wednesday, May 11, 2005

Prize Money, Informants, and the Noose

Corporate Law prof Stephen Bainbridge has a fascinating post about the economics of Patrick O'Brian, or, more accurately the economics of the British Navy in the 17th-19th centuries. You didn't know the British Navy had economics? Well, when Naval vessels captured an enemy ship, they got to keep it, or more accurately, the captured ship and its contents were auctioned off or purchased by the crown, with the victorious captain getting a quarter of the proceeds. "Head money" was also paid for enemies killed or captured.

As readers of O'Brian's terrific novels know, this system didn't give quite the right incentives. The system of prize money and head money did encourage captains to fight rather than flee, but not necessarily to fight the right battles. Captains could make more money, much more safely, by attacking enemy merchant vessels rather than warships. And with frigate captains often on the other side of the world from their superiors, monitoring them wasn't easy.

According to The British Navy Rules: Monitoring and Incompatible Incentives in the Age of Fighting Sail, the academic paper by Douglas Allen that Bainbridge is discussing, the British Admiralty offset these incentives in several ways. They frequently executed captains for avoiding combat and treated captains who fought but lost leniently. The French navy of the time did precisely the opposite.

Also, the admiralty tried to set things up so that lieutenants would report captains who shirked their duty. Lieutenants were required to keep logs and couldn't be fired by the captain. Perhaps most importantly, it was very difficult to get promoted to captain, at least for those without connections. A lieutenant who ratted out his captain stood a chance of getting his job.

It was a complicated system with lots of flaws, but it worked well enough that the British navy ruled the oceans for over a century.

Anyway both the post and the paper are well worth reading. They give a lot of insight into the events of O'Brian's scrupulously researched novels (the conflict between lieutenants and captains was news to me). They're also fascinating examples of what economists call the "principal-agent problem." That is, the problem faced by managers who want their employees to work hard, but aren't able to easily measure the quality of their work.

To take one example, the problems faced by the 19th century British Admiralty sound a lot like the dilemmas faced by police chiefs today, as described by George Kelling of "broken windows" fame. How to make sure that beat officers are doing their job instead of snoozing in their patrol cars? How to allow cops the freedom to take initiative without giving too much opportunity for corruption? I'm not sure, although our experiments with prize money for the police haven't turned out that well.

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