Thursday 16 September 2010

What's really new about Behavioural Economics?

Behavioural economics is the new kid on the economics block. It's young, brash, and pushing to take over from the ageing neoclassical orthodoxy. It has a new vision of how economics should work, but does it really see anything new?

I submit that the economy is smarter than the economists. Nearly everything behavioural economists have 'discovered' is already well understood as idiomatic common sense, and, where profitable, systematically incorporated into the real world economy in marketing and design. The economy already knows that shoppers can be fooled into buying things they don't, on full reflection, want or need by by tweaking the framing of choices. For example, supermarkets and restaurants have long known how to manipulate people's attention and get access to their wallets, such as through menu design or placing expensively priced impulse buy snacks at supermarket checkouts. Supermarket chains in particular have invested heavily and systematically for decades in mastering the technology of choice architecture. Gambling establishments are expert manipulators of 'loss aversion'. Credit cards were invented to diddle our inconsistent time preferences. Professional financial traders have been running rings around naive day traders who think rising prices mean a good time to buy since modern finance began.

All that behavioural economists have done is name certain effects pertaining to human nature directly (like our instinct for fairness or weakness of will) or indirectly through contextual framing, in a way that allows them to be theorised as economics. Sometimes it really does seem that, as Ha-Joon Chang notes in a recent book, "95% of economics is common sense deliberately made complicated".

Behavioural economists do not seek or offer insight into the human condition. They are largely content to systematically map the regular deviations of human economic behaviour (choices) from orthodox economic theory. They are not interested in why. They do not incorporate existing research into, and nor do they seek to contribute to a better understanding of, the human condition behind these phenomena (unlike such disciplines as psychology, ethics, sociology, and anthropology).

Instead their scientific contribution should be seen as extremely narrowly focussed on making orthodox economic theory slightly less stupid. This may not seem a very demanding goal, but orthodox theory has been devoutly committed to otherworldly unrealisticness for a long time. For example, industrial organisation studies what happens in the real world economy where the ideal theory assumptions of orthodoxy break down - e.g. between monopolistic and perfectly competitive markets. But it has never achieved high status in the economics profession (although it has been flipped upside down and systematically mined by business schools seeking ways to create and manipulate market imperfections: this is called 'strategy'). Behavioural economists have been more successful in gaining friends and influence in mainstream economics, and they have achieved this by putting their claims in the right form and tone that orthodox theory can swallow.

But the ideological significance of the rise of behavioural economics is much more than the anodyne content of their empirical research suggests. The core assumption of neoclassical orthodoxy that agents are rational has major consequences for their view of how the economic world works. Market outcomes are natural because they are the outcome of multitudes of rational choices operating in a neutral framework; they are efficient because they allocate on the basis of rational effective demand; they are just because that allocation reflects agents' own free and rational decisions in furthering their own interests (of which only they can judge). Accepting behavioural economics means accepting a very different view of the economic world. For if people aren't rational after all, and 'markets' are manufactured contexts (like supermarkets) that are not neutral, then markets cannot be counted upon for either justice or efficiency.

Thus, behavioural economics is indeed a revolutionary new school in economics. It retains the  normative benchmark of what counts as rationality from orthodox neoclassical analysis, but its research is concerned with asking not How would rational agents choose? but How do people choose irrationally? And its policy advice is not concerned with designing institutions and rules so that the rational choices of individual agents will lead to aggregate efficiency, but with designing choice architecture so that individuals will choose rationally. In behavioural economics the consumer is no longer sovereign, but actually needs protecting, from himself and from others. Technocrats may know better than you what you should choose to secure your own interests. And the government has a moral responsibility use that knowledge to intervene, not only to prevent your manipulation, but also to help you make the rational choice.