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Economic Theory and the World of Practice: A Celebration of the ( S , s ) Model

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  • Andrew Caplin
  • John Leahy

Abstract

It was the question of how best to balance the costs of ordering and of running out of stock against the costs of holding excess inventory that inspired Kenneth Arrow, Theodore Harris, and Jacob Marschak to introduce the ( S , s ) model in 1951. In this celebratory article, we show how this model not only answered important practical questions, but also opened the door to a quite startling range of important and challenging follow-up questions, many of great practical importance and analytic depth. The ( S , s ) model has become one of the touchstone models of economics, opening new vistas of applied economic theory to all who internalize its structure. Today it is universally applied to solve questions faced in inventory control. The core model elements, uncertainty and fixed costs of adjustment, are ubiquitous, which has resulted in its becoming the general purpose economic model of discrete adjustment. The ( S , s ) model has also become a profound source of inspiration for macroeconomists seeking to understand the role that discrete microeconomic adjustments play in macroeconomic fluctuations. Looking forward, we foresee rapid growth in the use of ( S , s ) modeling to aid households making complex and costly financial decisions, such as when and how to terminate a mortgage. In the projected era of "household operations research," new modeling challenges will arise due to enriched feedback from the world of practice.

Suggested Citation

  • Andrew Caplin & John Leahy, 2010. "Economic Theory and the World of Practice: A Celebration of the ( S , s ) Model," Journal of Economic Perspectives, American Economic Association, vol. 24(1), pages 183-202, Winter.
  • Handle: RePEc:aea:jecper:v:24:y:2010:i:1:p:183-202
    Note: DOI: 10.1257/jep.24.1.183
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    Cited by:

    1. Andrew Clausen & Carlo Strub, 2012. "Envelope theorems for non-smooth and non-concave optimization," ECON - Working Papers 062, Department of Economics - University of Zurich.
    2. Bijvank, Marco & Bhulai, Sandjai & Tim Huh, Woonghee, 2015. "Parametric replenishment policies for inventory systems with lost sales and fixed order cost," European Journal of Operational Research, Elsevier, vol. 241(2), pages 381-390.
    3. Piero Ferri, 2011. "Macroeconomics of Growth Cycles and Financial Instability," Books, Edward Elgar Publishing, number 14260.
    4. Jenny Carolina Saldaña Cortés, 2011. "Programación semidefinida aplicada a problemas de cantidad económica de pedido," DOCUMENTOS CEDE 008735, UNIVERSIDAD DE LOS ANDES-CEDE.
    5. Noblesse, Ann M. & Boute, Robert N. & Lambrecht, Marc R. & Van Houdt, Benny, 2014. "Lot sizing and lead time decisions in production/inventory systems," International Journal of Production Economics, Elsevier, vol. 155(C), pages 351-360.
    6. Iimi,Atsushi & Humphrey,Richard Martin & Melibaeva,Sevara, 2015. "Firm inventory behavior in east Africa," Policy Research Working Paper Series 7280, The World Bank.
    7. Martin Watzinger, 2016. "The Effect of a Credit Crunch on Equilibrium Market Structure," Computational Economics, Springer;Society for Computational Economics, vol. 48(1), pages 105-130, June.
    8. Noblesse, Ann M. & Boute, Robert N. & Lambrecht, Marc R. & Van Houdt, Benny, 2014. "Characterizing order processes of continuous review (s,S) and (r,nQ) policies," European Journal of Operational Research, Elsevier, vol. 236(2), pages 534-547.

    More about this item

    JEL classification:

    • D14 - Microeconomics - - Household Behavior - - - Household Saving; Personal Finance
    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • M11 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Administration - - - Production Management
    • M21 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Economics - - - Business Economics

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