behavioural economics

Doughnut Economics (4): Beware Nietzsche’s abyss

/ rolfgroeneveld / 2 Comments

The third of Raworth’s “Seven Ways to Think like a 21st-century Economist” is to replace the robotic view of human behaviour that is so ubiquitous in neoclassical economics by a richer picture that acknowledges the important role of social norms and moral considerations.

Behavioural economics

That Homo economicus is a poor model of human behaviour is, at least nowadays, widely acknowledged in economics. The Nobel Memorial Prizes for the likes of Daniel Kahneman, Vernon Smith, and Richard Thaler demonstrate this – in fact, if you want to keep up with the latest fads in economic research, behavioural experiments are a pretty good bet, and you’d better hurry because the field is getting crowded! Raworth also cites a wide range of behavioural-economic research to make her point, so the chapter reads like an overview of current behavioural-economic insights, rather than a fundamental critique of the profession.

Of course that still leaves the question how much of this has penetrated economics education. I can’t speak for economics education in general, but at least I know that the economics programmes at Wageningen University (where I work) and Tilburg University pay attention to behavioural economics as well as the neoclassical model.

The tail wags the dog

She also makes two pieces of criticism, however, that deserve attention. The first is the warning that not only do we shape theories, the theories also shape us, as economics students turn out to be more willing to cut moral corners for personal gain, and this effect becomes clearer as students progress further in their programme. This insight, that our theories and insights shape our object of study in more direct ways than is possible in biophysical systems, is quite common in the social sciences but gets little attention in economics. To quote Nietzsche, when you gaze into the abyss, the abyss gazes back into you.

The second criticism is not made explicit but you can read it between the lines: whereas Raworth tries to design a conceptual framework of human behaviour that covers all possible factors (price incentives, preferences, social norms, psychological factors), economics tends to view the social and behavioural factors as deviations from the standard model, where the standard model needs tweaking in order to capture those factors as well. These are two very different approaches to understanding a complex system: one tries to capture all the factors at once, and the other starts with a highly simplified version that is then extended to include more and more complications. I believe both approaches have merit and can coexist.

Nudge all you like, but don’t depend on it

So what should policy makers do with this richer picture of human knowledge? Raworth dismisses the economists’ kneejerk response to resource misallocations that all that policy-makers need to do is to “get the prices right”, because price incentives have all kinds of nasty side-effects that have to do with motivation crowding: if you do good because it is good, you lose that intrinsic motivation once you get paid to do good. And I share her aversion to the tendency to reduce people to incentive robots.

Alas, I find her alternative less convincing. If we want to change people’s behaviour, Raworth argues, we need to mobilise the power of nudges (subtle changes in information that work on an unconscious rather than conscious level), networks, and social norms. While I agree that we need a richer model of human behaviour to guide our policies, I think she dismisses the price mechanism too easily, and relies too much on psychological nudges and social norms.

My main objection to this is Hayek’s insight that a price is not only an incentive – it is also a piece of information. If it costs me €10 to produce something, I will not charge less than €10 for it. This is a signal to others that the costs of producing it is at least €10 (after all, I might try to charge more). This is important information in their decision to either purchase the good, produce it themselves, or seek an alternative. If there are many competitors around, I will not be able to charge too much either, so that what I charge would be close to the production costs, including the opportunity costs of my time. That is a powerful information mechanism that you will not find in nudges, norms, or whatever motivation you want to mobilise other than a price mechanism.

On the scale of an entire economy this role of prices as information is essential to steer the allocation of goods, because it is the only way to transfer such information efficiently. Sure, it has nasty side-effects so we should be careful not to apply it everywhere – I’m sure there are situations where we would better rely on nudges, networks, social norms, and whatnot. And I agree that there are many examples around where we have trusted too much in price mechanisms (or other quantified indicators of value or success, such as, ehm, citation indices and course evaluation scores), and allowed fierce competition to erode social norms and a general sense of humanity, or moderation, in how we deal with each other. But accepting nudges to run an economy is just as fanciful.

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