This post is almost a month old. The Economics prize in memory of Alfred Nobel (wrongly called as Nobel Prize for Economics, read Taleb’s criticism for the same here) was given to 3 economists who have (ofcourse) pioneered the field of Mechanism Design Theory.
Nobel Committee has done some explaining of the same here (basic version) and here (advanced version). Sicne then, there are a lot of links explaining the same and most can be found doing a simple google search. In particular see this superb post by Alex Tabarrok of Marginal Revolution.
To me it is an extension of 2 basic ideas to which Nobel committee has already rewarded earlier- importance of institutions (in 1993to North and Fogel) and information asymmetry (in 2001 to Akerlof, Spence and Stigilitz). There are many roles of institutions but one very important role is that they help reduce information asymmetry in markets. Now the next question is how do you design these institutions, in other words how do you make these institutions function?This is what MDT helps in answering. The field is highly abstract but has a lot of applications in real life. (Read Tabarrok article).
Jeff Lacker of Richmond Fed has given a nice speech linking MDT and the recent crisis.
Mechanism design theory provides an approach for addressing precisely these questions about how institutions arise and adapt in response to incentive and information problems. This approach then allows us to study and compare the diverse institutions that exist in an economy and play a role in the allocation of resources — markets, firms, banks, clearing houses, and even central banks and governments. More precisely, these contractual and institutional arrangements all constitute alternative mechanisms for allocating resources, and the approach is to study the properties of the best possible resource allocations that any mechanism is capable of achieving. For example, how well does it do at funding appropriate investments and allocating the attendant risk? One can then compare how close alternative mechanisms come to achieving those allocations. If one set of arrangements can achieve superior allocations, but others cannot, then one has a candidate explanation for why such an intermediary might exist.
Read the whole speech to get another perspective on MDT and recent crisis.