Re-designing the free market so it works for everyone

The free market is said to be a place of wild untrammelled opportunity. If you're Gordon Gekko and preach that greed is good, you feast on the rewards you believe you merit, while Russell Brand and Occupy rally to defend the victims of rampant capitalism. Either way, the nature of the market is that it's unconstrained, until such time as the state intervenes. Buyers go for the lowest price, sellers seek out the highest bidder, and everyone pursues naked self-interest. End of story.

But what if markets could be precision-engineered to stop the brutal stampede of pure materialism and take account of both genuine need and the wider social good? Such is the vision for which Harvard economist Alvin E Roth won the Nobel prize. In Who Gets What – And Why, he outlines in mercifully accessible layman's terms how "when we speak about a free market, we shouldn't be thinking of a free-for-all, but rather a market with well-designed rules that make it work for all".

Roth has an infectious passion for his subject, proclaiming that economics has "the fascination of gossip: it exposes intimate details of other people's lives and choices", and his idea of the market encompasses far more than purely financial transactions. In fact, the application of Roth's market design has saved lives in an area in which buying and selling is prohibited in most of the world: organ transplants.

For many years, would-be donors who wanted to give a kidney to a loved one in need but were found to be a poor match – for example, because of incompatible blood types – could only wait in frustration for something to turn up. Then Roth came along with innovative algorithms that matched willing donors with compatible recipients at 14 kidney transplant centres across New England. Grateful doctors embraced Roth to the point where he became a welcome visitor to the operating theatre for transplants, prompting a moment of rare lyricism on the surgeons' skill: "The deftness with which they worked made me think of trout fishermen preparing fishing lures."

Roth's exchange system has grown ever more complex, and now takes account of altruistic donors who simply want to help save a stranger's life: it seems self-interest alone needn't always rule supreme.

For Roth, whether we realise it or not, markets are everywhere, from the coffee we drink in the morning to the job selections that determine our lives. Market design, too, is all but ubiquitous, and has given rise even to money itself (in order to solve the problem of the barter economy, which needed the coincidence of seller and buyer both wanting what the other one had).

The way market design can sometimes go very, very wrong is instructive. Roth offers us one real doozy. Back in 1999, some highly paid smart-aleck at Coca-Cola thought it would be a good idea to automatically increase the price of cans in vending machines during hot weather. Unsurprisingly, far from seeing a rise in profits, the company found itself the target of public fury until the trial was abandoned and normal service – and a flat price – were restored.

If only Coca-Cola had been able to call upon Roth. His understanding of incentives, timing and the thickness or thinness of markets reaches from places in the New York public school system to the extraordinary matchmaking arrangements of Australia's Arunta aborigines, where the laws of supply and demand mean their polygamous society has a shortage of women.

This has led to marriages being agreed at birth by parents – and even earlier still. In one agreement between two fathers of newborns, the baby boy is promised the hand in marriage of the first daughter that the baby girl will one day give birth to. It's the most extreme example of what happens when everyone's afraid of missing out by waiting too long.

Where Roth has been faulted is for a disjunction between his academic ideals and the human requirements of the wider world. Many have praised the transparent system he helped create to place graduating medical students into hospital residences; but some have criticised the way it flings young men and women thousands of miles across the country – whether they like it or not – and even branded the results a disaster. Yet Roth's optimism and non-ideological smartness are welcome. As he says: "Most markets operate in the substantial space between Adam Smith's invisible hand and Chairman Mao's five-year plans." Would it be too much to hope that Left and Right could suspend hostilities long enough to consider what well-designed markets could do for everyone?

Further reading on ... money

Capital by John Lanchester. Brilliant snapshot of lives caught up in the dictates of the market, in a London ruled by surging property prices and a widening wealth gap.

The Wealth Of Nations by Adam Smith. In the beginning was Adam – Adam Smith, who in 1776 set the ball rolling for the capitalist market as we know it.

Freakonomics: A Rogue Economist Explores The Hidden Side Of Everything by Steven D Levitt and Stephen J Dubner. "Well I never" facts from business analysis of drug dealing to how sumo wrestlers cheat.

Thinking, Fast And Slow by Daniel Kahneman. Another Nobel prize-winning economist challenges us to rethink everything we thought we knew about how we make decisions.

Liar's Poker by Michael Lewis. No one writes better about markets from the inside: his scintillating 1989 memoir of working on Wall Street is as good as Tom Wolfe's tales of the milieu.

Capital In The Twenty-First Century by Thomas Piketty. It's hard going, but the French economist's takedown of capitalism's glaring inequalities set the agenda last year.