Misbehavioral Economics: The Case Against Behavioral Antitrust

Josh Wright —  5 October 2010

In a policy speech earlier this year, Commissioner J. Thomas Rosch of the Federal Trade Commission advocating the incorporation of behavioral economics into antitrust analysis suggested one concern that others might have with the approach was that “behavioral economics was simply liberalism masquerading as economic thinking.”   The Commissioner himself has been a vocal proponent of incorporating insights from behavioral economics into antitrust, as has already been done in the consumer protection realm (see, e.g. CFPB).  Indeed, with Cass Sunstein’s appointment at OIRA, the recent creation of a “Nudge” team in David Cameron’s Cabinet (aka “behavioral insight team”) in the UK, the CFPB, and the calls from at least one Federal Trade Commissioner to modify antitrust analysis suggest the behavioral regulatory regime is no longer right around the corner; it has arrived.

I’ve been a critic of incorporating behavioral economics into other areas of the law, but especially antitrust (see Nudging Antitrust Part 1 and Part 2).  The problem, as I see it, is not that behavioral economics is itself illegitimate.   To the extent behavioral economics is successful in documenting systematically predictable deviations from rationality, and a robust understanding of the conditions under which those deviations will occur and when they will not, it will contribute much to economic science.  This post, however, is not about behavioral economics, behavioral economists, or the costs and benefits of behavioral regulation.  In antitrust, as with consumer protection generally, the far greater concern from my perspective has always been the threat the regulators, judge and policymakers would misapply the behavioral literature for ends it does not support.  Consistent with that view, one might not be surprised that in antitrust, like in other areas of the law, behavioral insights have nearly uniformly been applied to argue in favor of greater intervention.  The concern, to adopt Commissioner Rosch’s frame, is not that it is behavioral economics that is liberalism masquerading as economic thinking; instead, the concern is that it is antitrust regulators, legal scholars, and policy makers that will misapply it in order to “dress up” preferred policy positions in a veil of economic rigor.  Indeed, behavioral antitrust proposals in the literature are beginning to proliferate, advocating greater intervention in all areas of antitrust: Cartels, mergers, and monopolization.  In each, behavioral economics is employed in favor of a presumption supporting increased antitrust intervention.

In our new paper, co-author Judd Stone and I take on that presumption, but also offer a broader critique of the presumption that the existing behavioral economics literature generates important antitrust policy-relevant implications at all in our recently posted article, “Misbehavioral Economics: The Case Against Behavioral Antitrust.”

In an obvious sense, existing antitrust tools are already capable of incorporating information about consumer irrationality.  If consumers predictably deviate from rational choice (e.g., because of a status quo bias), these biases will be reflected in their actual behavior.  For example, if consumers are irrationally reluctant to switch from Coke to Pepsi in response to a change in relative prices, this is reflected in their actual behavior and existing antitrust tools are sufficient to capture these effects through estimates of demand elasticities and the like.  If behavioral antitrust is to supplant existing tools of antitrust relying on rational choice models (and of course, this includes both Chicago price theory and Post-Chicago game theory), it is going to have to offer a theory of firm irrationality.  And indeed, advocates of behavioral antitrust such as Commissioner Rosch, Maurice Stucke, Amanda Reeves, and others claim that they have done precisely that.

Our fundamental point is to offer the provocative claim that the models of firm irrationality underlying these proposals is flawed because the models employed do not account for irrationality of both firms and rivals / entrants.  We demonstrate that for any given behavioral bias, if one assumes it applies to both incumbents and entrants — we also assume the robustness of these effects even when one must transport them from the individual context to the firm, where it often makes less sense to do so — many if not all of the antitrust implications wither away.  Further, those that are left do not necessarily favor greater intervention.  If advocates of behavioral antitrust seek to supplant the underlying model modern antitrust analysis which treats firms as rational economic agents, the competing models must offer more realistic accounts of firm irrationality.  We conclude that, at least for now, behavioral economics remains irrelevant to antitrust policy.

The abstract is below the fold.

Dissatisfied with the mainstream antitrust jurisprudence that has emerged over the past several decades and garnered widespread consensus, and encouraged by the momentum the financial crisis has generated for intervention, competition policy scholars and regulators have turned to behavioral economics to provide the intellectual foundation for a new, “behaviorally-informed” approach to competition policy. We evaluate these behaviorally-informed regulatory proposals assuming arguendo ideal conditions for their implementation: the robustness of behavioral findings to the market setting, the appropriateness of imputing those findings to firm behavior, and that regulators and judges do not suffer the same biases. Others have effectively criticized the behavioral law and economics literature on each of these points. While we believe these criticisms have significant force, our approach offers a more fundamental critique of the behavioral antitrust enterprise. We demonstrate that, even under the ideal conditions described above, behavioral economics does not yet offer an antitrust-relevant theory of competition. We dub this result the “irrelevance theorem.” If one assumes a given behavioral bias applies to all firms – both incumbents and entrants – behavioral antitrust policy implications do not differ from those generated by the rational choice models of mainstream antitrust analysis. Existing behavioral antitrust regulatory proposals have either ignored the implications of entry altogether, or assumed without justification in the behavioral economic literature or elsewhere, that cognitive biases influence the decisions of incumbents but not rivals or potential entrants. While the theoretical failure we expose in no way limits the potential future utility of incorporating behavioral principles into antitrust, behavioral principles must lead to testable implications and outperform existing economic models before it achieves policy relevance. Despite the enthusiastic support it has received from its advocates, until this occurs, behavioral principles will not be in a position to improve an empirically-grounded, evidence-based antitrust policy. We conclude by calling on interventionist advocates of behavioral economics to demonstrate, rather than presume, that behavioral principles can generate a higher rate of return for consumers on their antitrust investment.

Check it out.