Wednesday, September 26, 2012

An Excellent Diagram to Explain Behavioral Economics

A while back I got involved in a rather long discussion regarding limiting soda sizes. The basics are that how a good is presented can shape behavior, often to the benefit of the producer and detriment of the customer, partially as a result of power relationships (try going into a gas station and wanting to treat yourself to a small soda, it's rare a 12 oz. size is available). People often make choices in the short term that they dislike in the long term as a result of framing and limiting choices.

A very good graph of how this works is up at Worthwhile Canadian Initiative, which I suggest taking a look at.

I do want to quibble with one point. At the end of the post it reads:

While I am sympathetic to behavioural economics, I worry about the consequences of viewing all policies through the lens of health. Some of the best things in life are also somewhat dangerous - like swimming across a lake with only the moon and stars for company. At the same time, I want to live in a world where I'm nudged towards healthy choices - where it's easy to get around by bicycle, for example, and the university cafeteria serves reasonably nutritious meals.

Welfare economics teaches us to respect people's choices. Behavioural economics urges us to protect people from making dumb choices that they'll regret later. I don't know of any way of resolving these two views.
I have a few thoughts based on this. First of all, it makes it rather stark that standard economics is taking the revealed preference as ideal. While this makes a lot of sense for methodological concerns, it is rather philosophically weak. If you are trying to investigate whether or not the market, as currently instituted, does deliver ideal outcomes you won't get very far in that investigation if you simply take revealed preferences as your ideal starting point. It is important when thinking about economics to remember that revealed preferences are used primarily because it eases methodological investigations, philosophically, defenses of revealed preferences look a lot more like justifications than they do valid starting premises. For methodological purposes it is an ideal place to start from, and it makes optimizing choices clear. However, in the quest for the ideal it is rather limited since it creates a self-confirming loop.

Second, I do see a way of resolving the two views. Both serve as different ways of informing policy. But to decide which to use, it is necessary to recognize the importance of having different decision rules. Ultimately, this is why market economies and democracy works so well together. The market provides a space for optimizing behavior; democracy provides a different decision rule that allows other considerations to rule. Behavioral economics provides an explanation for why other considerations may influence people differently than welfare economics. Economic assumptions can simply only take you so far, after that it becomes necessary to pick up concerns that are not expressed at the moment of decision by a consumer through the price signal. The tension between the two is very healthy, it provides opposing viewpoints that can be resolved through the democratic system, rather than an elitist, optimizing and technocratic process. It is better that this tension exists to be negotiated through this means than it is to try to choose one or the other as the better view for decision making.

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