More Misbehavioral Economics

I say, again and again, that it is an embarrassing non-sequitur to argue that people are “irrational” and then leap to the conclusion that they need benevolent paternal guidance from the state. After all, if people are irrational then voters are irrational, politicians are irrational, bureaucrats are irrational, etc. To this, Ezra Klein responds:

I'm not sure what exactly it is that Will finds so inexplicable here. Behavioral research often finds that consumers act irrationally in certain situations. So given a specific set of constraints, they may underestimate future risk, prove oversensitive to loss, exhibit significant status quo bias, and so on and so forth. All problems.

Now, the government may be made up of people, but it is not made up of people carrying out transactions under these conditions.

Perhaps Ezra is right, but only because people acting inside government institutions are much less likely to themselves bear the cost of their mistakes, and will therefore likely make more of them. There is no way to wriggle out of the fact that people who win elections are just like the rest of us.

I really wish people would pay more attention to Vernon Smith, who invented experimental economics, won the Nobel Prize for it, and remains by far the most philosophically rigorous theorist of the relationship between individual rationality and institutional performance. (Ted Bergstrom's paper here [pdf] is a good overview.) What Smith's work shows is that, yes, individuals in isolation don't act according to canonical postulates of rationality, but that well-structured market institutions will nevertheless tend to converge on the efficient outcome, as if the agents were behaving with full “rationality”, even though they are in fact limited, confused, and ignorant. The “rationality” of the outcome is more a function of the structure of the institution than of the “rationality” of those acting inside it.

Responsible social science therefore compares the way real people perform when embedded in different real-world institutional settings. What you surely don't do is perform selective empirical work to discover an “anomaly” in decision making, and then deploy a priori high theory to infer that one set of institutions (markets) won't work, because, in fact, the performance of a market institution might turn out to be indifferent to the anomaly or limitation. That's what Smith has proved. If you're going to be an empiricist, then be an empiricist, and actually test the effect of the anomaly in the performance of the relevant institutions. Until you do this, it's either arbitrary, naive, or willfully ideological to posit another set of institutions (government) as a fix. Because there may be nothing to fix. And, even if there is, government may be the wrong kind of institution to fix it. You've got to run the experiment.

There is a great deal of carelessness in generalizing the results of anomaly-focused behavioral economics. As Steven Levitt and John List write in their short article on behavioral economics in Science ($$$) this month:

Perhaps the greatest challenge facing behavioral economics is demonstrating its applicability in the real world. In nearly every instance, the strongest empirical evidence in favor of behavioral anomalies emerges from the lab. Yet, there are many reasons to suspect that these laboratory findings might fail to generalize to real markets. We have recently discussed several factors, ranging from properties of the situation — such as the nature and extent of scrutiny — to individual expectations and the type of actor involved. For example, the competitive nature of markets encourages individualistic behavior and selects for participants with those tendencies. Compared to lab behavior, therefore, the combination of market forces and experience might lessen the importance of these qualities in everyday markets.

List has run a number of field experiments that show that this is the case. Smith has run a number of lab experiments that show that the frequency of a “mistake” goes down as the cost of making it goes up.

Ezra continues:

An easy example is the research on opt-out 401(k)s. We know, from the economists, that investing in 401(k)s is generally a wise idea. We know, from the statisticians, that far fewer people do it than should. We know, from the behavioralists, that far more people would do it if the default setting put you in the 401(k), rather than forced you to wander down to HR and specifically ask for it. And so folks in the government, acting with more information and in a different context than folks in an office, think up a policy to “recognize the power of inertia in human behavior and enlist it to promote, rather than hinder, saving.”

At exactly which point in this process does Will fear that the same irrationality that keeps someone from creating a retirement account will foul up a regulator's efforts to ease their way into a retirement account?

As I said to Dan Ariely in our chat, I think behavioral work is really valuable, especially when it suggests to us how people might better structure their affairs to get more of what they want. I think the evidence shows that 401(k) opt-out defaults are often a good idea, and that businesses ought to make that part of their standard labor contract, if that is something that they think would be appealing to their prospective employees.

I also think that this minor fact about the general distaste for filling out complicated forms can hardly be used to justify further encroachments on the right of individuals to negotiate the terms of their contracts with employers. I think Ezra's argument here is both strangely narrow and ungenerously extreme. I don't doubt that non-terrible policies are sometimes successfully enacted. To doubt that would be a bit like a market skeptic doubting that anyone ever succeeds in buying a candy bar. That would be terrifically dense. What I doubt, very strongly, is that the discovery of “irrationalities” undermines the authority of market institutions more than it undermines the authority of government institutions. Are people more or likely to behave irrationally when voting for their congressman or when buying a sandwich? Do buyers for private organizations sign contracts for $76 screws? Etc.

So, no. I don't fear the mandatory opt out 401(k) plans in particular will be a giant debacle. But I do fear that half-baked behavioral economics is being used to undermine support for market institutions in general, way ahead of the evidence. And I fear that a fundamentally confused assault on “rationality” is being used successfully to promote paternalistic control by elites and, necessarily, to encourage the docility of those who are to be controlled.

[Added: If you have not read Ed Glaeser's “Paternalism and Psychology” [pdf], then you probably should.]

Meditations on Collective Action and Moral Norms

All this collective action problem debate is delightful. Here are some not-very-structured musings….

The topic of my unwritten dissertation was how solutions to “the contractarian compliance problem” (the fact that an individual can often do better for herself by ignoring moral constraints on self-interest that, if generally heeded, more than compensate for the short-term sacrifices moral constraints require), and the boundary between ideal and non-ideal political theory, turn on assumptions about human motivation that are open to empirical investigation. My position was (and is) that both pure rational choice (as represented by James Buchanan) and modified rational choice (as represented by David Gauthier) are less satisfactory as a matter of empirical psychology than a more deeply-moralized conception of motivation (as represented by John Rawls), but that rationalist accounts of the “moral capacity” or “sense of justice,” like Rawls's, are also inadequate (in part because of the failure of the Universal Grammar analogy and in part because of naivete about the power of the moral sense to regulate self-interest in many contexts, especially politics).

Anyway, the point is that I don't accept strict rational choice reasoning about collective action problems. Indeed, I think the fact that we do successfully solve so many of them basically refutes strict rational choice assumptions. (Even if coercion needs to come in to solve a coordination problem, you've got to ask why the guys with the guns are doing what they are supposed to, and not just using their powers to plunder, etc.) But if we're talking about whether or not a certain constraint on self-interest ought to be normatively binding, I think you have to ask: Why? Because I'm a soulless, reductive, naturalist, I think there's a good answer to that: because heeding the constraint will tend to make the person who heeds it better off, conditional on others heeding it, too. This is where a lot of people will part ways from me. They feel uncomfortable seating normativity in individual flourishing. However, I find all the relevant alternatives to be basically religious.

I am entertained by the examples at hand — gifts to the U.S. Treasury, meat avoidance, and carbon minimization — largely because I see people fighting over whether or not to try to establish or reinforce a moral norm, and that is really interesting. I found Henry's rational choice-style answer to the question of gifts to the government amusing, because it suggests that he is not interested in reinforcing a moral norm that would motivate us to give money voluntarily to the Treasury. But if he wants the government to have more money, why not? Perhaps such a norm of voluntary giving might undermine a sense of the necessity and/or moral legitimacy of coercive taxation, which he believes it is important to maintain. Perhaps he thinks that this is an area where we cannot realistically expect the moral sense to sufficiently regulate self-interest, and so appealing to morality to do a job only coercion can do will be self-defeating. A new set of moral norms might crowd out a more effective coercive solution.

Well, I can buy that as a real possibility. But then I become very interested in how to apply this kind of reasoning to other similar cases. A lot of people seem to want to pursue a joint moral-coercive strategy to carbon emissions. Might that be self-defeating? Or is it supposed that an optimal carbon tax is politically infeasible without some moral ground-softening? Ethical vegetarians can be very evangelical but don't seem to be very interested in banning or taxing meat at all. Why not? Maybe all these subjects are more dissimilar than I'm assuming. Then how so?

My philosophy leaves me very skeptical that norms about any of these things (much less coercively-enforced rules) would have any justified normative force — would be rationally binding. I don't think higher taxes in the U.S. will leave the average person better off over time, much less the person who pays them. I have no idea how to tote up the net externality of carbon emissions (I don't even know if the sign is positive or negative) and neither does anybody else. And since I think morality is for enabling human flourishing, I care about animals only insofar as our attitudes toward them affect patterns of interaction that bear on human well-being.

“Culture wars” are largely ongoing fights about what the governing norms are going to be. Certain kinds of arguments are useful in discouraging people from adopting or internalizing a new norm. I think a lot of rational choice arguments are like that. Because I think a lot of fledgling moral norms are likely to be harmful if they go viral, I like to encourage people to think like an economist, both to help them understand why the norm may not do any good as a matter of fact, but also to promote a generally inhospitable psychological climate for faddish moral memes.

Did you really read this far?

Misbehavioral Economics

I have unforgivably neglected to link to yesterday's episode of Free Will featuring a discussion with Dan Ariely, the Alfred P. Sloan Professor of Behavioral Economics, about his new book Predictably Irrational: The Hidden Forces that Shape Our Decisions. I really enjoyed talking to Dan, who is incredibly creative in experimental design. It is good fun reading about the experiments, but I found Dan frustratingly naive about the implications of many of his findings, as I vented here.

I'm pretty sure Dan is guilty of the the fallacy of asymmetrical idealization, and I think he falls victim to a number of confusions common among behavioral economists that are inevitable when you completely destroy the formal neoclassical economic model of rationality but insist on using it as a benchmark of rationality anyway. (I discuss this at greater length here.) But like I told Dan in the diavlog, I'm totally on board with the project of finding out how we actually do make decisions, which is obviously of the first importance. His extremely valuable work is clearly at the cutting edge of that effort, and Predictably Irrational is well worth reading, if only to get a good sense of some important (and perplexing) recent findings.

Happiness in the Sun Papers

The Sunday edition of the Baltimore Sun has a feature on happiness by Joe Burris, which contains a number of quotes from your resident happiness wonk. I'm especially delighted to have received the last word:

Those rankings raise the age-old question: Does money buy happiness?

“All the evidence points to the fact that people who have more money are more likely to say that they're happy on these surveys,” said Wilkinson. “People who say that money doesn't matter are misleading you. Within just about any country, as you go up the income scale, the people higher up the income scale are happier.”

The last sentence in the quotation is a casual gloss of the first where “are happier” = “are more likely to say they are happy.” I was thinking of this chart:

Maybe one of these days, the conventional wisdom will actually reflect the data.

More Fun with Collective Action

Here's a question and answer from AskPhilosophers that bears on the question of individual moral obligation in matters where only coordinated collective action can make any meaningful difference.

If I don't fly from London to my sister's wedding in New Zealand she will be upset, I will cause her pain and so that's morally bad.If I do fly to my sister's wedding in New Zealand I will put about four tonnes of carbon dioxide into the atmosphere, which will contribute to climate change, which, according to the World Health Organisation, already causes about 150,000 deaths every year. Clearly that's also morally bad.Which is the morally correct thing to do?

December 4, 2007

Response from Thomas Pogge on December 7, 2007

In dilemmas of this kind, always start by thinking about whether they are really inescapable. One escape in this case it to speak with your sister. If she likes New Zealand, she is unlikely to be indifferent to the environmental degradation that is already so much in evidence elsewhere. Plus you can offer to donate the flight cost to a good cause of her choice, in honor of her wedding. In any case, it is much easier for her to understand and accept the decision if she was herself involved in making it or at least in thinking it through.

BTW, I checked your numbers because 4 tonnes seemed like a lot. But you are basically right. A Boeing 747-8 takes a bit over 200 tonnes of fuel (over half its take-off weight), roughly 137 gallons of fuel per passenger. Each gallon produces 20 lbs of carbon dioxide. So that's about 1.3 tonnes per person. But then one tank does not get you there, plus you'll have to fly back as well. So 4 tonnes is a very good estimate. Way too much, indeed.

Well, I sure wouldn't have given Thomas Pogge's answer, which I think is really quite silly. Even granting what I'd guess are the underlying extreme AGW assumptions, surely the correct answer is this:

Your choice is very unlikely to determine whether or not a airplane leaves London for New Zealand. So, chances are extremely high that the same amount of carbon will be emitted whether or not you choose to go. Staying or going will make no difference at all to the condition of the atmosphere. But even if your choice quite improbably keeps that plane in the hangar, the effect of that flight is infinitesimally small in the overall scheme of things. Your choice is also likely to do nothing whatsoever to improve the probability of enacting some kind of future global climate treaty or some kind of scheme for incorporating the cost of the environmental externality into the cost of plane tickets. So, if not being a horrible selfish brat of a brother matters to you at all, then you should go. In fact, you sound suspiciously like a shit trying to find a bogus, holier-than-thou excuse to wriggle out of ponying up for a flight to your sister's wedding. If you're broke or cheap you've got to tell her the truth about why you won't go. You are emphatically not allowed to hide behind Al Gore.

Thomas Pogge is an eminent moral and political philosopher, and not a complete idiot, so what's going on here?

Moral Duties in Contexts of Partial Compliance

Megan's debate with Henry Farrell over voluntary taxation is fun to watch. Megan says if you think you are not paying your fair share in taxes, then you can always write a check to the government. She is correct. Henry says that when people say that they want to pay higher taxes, generally they mean that they want to pay conditional on other people also paying higher taxes. It may be well worth $x to me to increase government revenue by $10,000,000x, e.g., but not to increase it just by $x. He is correct.

I accept Henry's reasoning. But a lot of folks with roughly his politics don't. I've heard any number of ethical vegetarians reject the claim that the irrelevance of any individual's choice to the aggregate demand for meat renders the individual's obligation not to consume meat moot. Likewise, there is no change in my behavior that could possibly have a causally appreciable affect on the aggregate output of carbon. But there are evidently many many people who think I am under a strong moral obligation to bicycle, buy local produce, etc. whether or not a credible scheme of global carbon regulation is ever implemented. And aren't a lot of the people who think they should not eat meat whether or not other people do, and a lot of the people who think that they should reduce their carbon footprint whether or not other people do, the same people who think tax rates ought to be higher as a matter of distributive justice? If so, then it seems like those people are logically committed to sending big checks to the government, or directly to poor people, whether or not other people are forced to. And so it does seem that many people who should think they ought to are avoiding sending checks to the government.

Maybe if there was a special “tax patriot” armband you got to wear around for paying extra taxes that allowed people to signal, and take public credit for, an otherwise invisible act — a Prius of taxation — we'd see more of it.

The Laissez Faire Welfare State

Responding to my colleague Dan Mitchell, Matt Yglesias writes:

“Iceland is known as the Nordic Tiger because of rapid economic growth,” writes Cato's Daniel Mitchell, “much of the nation’s prosperity is the result of free-market policies.” When I visited Iceland it struck me as more a Scandinavian social democracy than a free market paradise. And indeed the OECD stats back me up.

Matt then shows a chart of taxes as a percentage of GDP. Taxes in Iceland are high.

Can't they both be right? Iceland, much like Denmark, is more or less Hong Kong with a huge welfare state. High personal tax rates and redistributive policies certainly do affect incentives to work, save, etc. And certain state-provided services do tend to crowd out private alternatives. That said, it is possible to have high tax rates, lots of redistribution, and no other policies regulating the operation of the market. Neither Iceland nor Denmark leave their markets that unfettered, but it is simply undeniable that they are extremely wealthy, free-market capitalist countries. Indeed, the relative success of countries like Denmark and Iceland is outstanding evidence that the best way to ensure high levels of welfare spending (in tiny, ethnically homogeneous countries) is to let the capitalism rip.

According to Heritage, Iceland ranks 14th in the world in terms of economic freedom. It has no minimum wage. Denmark, which comes in 11th, has one of the world's least regulated labor markets and is one of the world's easiest places to start a business. If you consider that both take a huge penalty in these rankings for their high personal tax rates (but check out the super-low corporate and capital gains tax rates!), you can get a sense of just how unregulated and conducive to business these economies really are.

Perhaps the greatest unheralded discovery of the late 20th/early 21st century is that relatively unfettered capitalism is a much better complement to the comprehensive welfare state than is dirigisme. I for one plan to herald this.

Too Much Consumption? Let Me Decide.

This morning's Marketplace commentary takes on the idea that we're consuming tons of crap we don't need.

Update: For those skeptical of the claim that people tend to be happier, healthier, better-educated and longer-lived in countries that consume the most, please see the UN Human Development Index. The top of the list is basically the group of wealthy, liberal, capitalist societies. The Nordic countries, please note, are extremely wealthy market societies with very high levels of consumption. Also note that an ethos of consumerism is different from the level of consumption, although there is no good evidence that consumerism is in any sense harmful. Look at gadget-obsessed Japan at #8 or the arch-capitalist U.S. at #12. And bear in mind that the difference among the top 20 are so small as to be nearly meaningless. Also, see Ruut Veenhoven's overview of his recent work, which finds no decline in happiness in rich countries and a steady increase in years of life lived happily. There is also Angus Deaton's recent paper [pdf], which finds the positive relationship between happiness and per capita income to be very robust. And there is also my paper on the policy implications of happiness research. For those especially worried about sustainable development, Ron Bailey's article from a few days ago is a great briefer.

Update 2: Maybe a picture will help. The black line at the top represents the OECD countries — i.e., the countries where people consume the most:

OECD Central and eastern Europe, and the CIS Latin America and the Caribbean East Asia Arab States South Asia Sub-Saharan Africa

You will also notice that this is not a zero-sum game.