Archives For behavioral law and economics

Josh’s ongoing series on “Nudging Antitrust” and FTC Commissioner Rosch’s recent thoughts on behavioral economics has been excellent and I look forward to the next installment.  Rosch’s speech, not surprisingly, also elicited a strong response from me.  What follows are my thoughts on Rosch’s speech, focusing on some of the same issues Josh addressed in his first post.

Rosch puts forward four reasons, purportedly identified by behavioral economics, that explain why “human beings sometimes act irrationally in making commercial decisions.”  Each of his four reasons and/or his understanding of its implication is problematic.  Finally, Rosch proposes a policy response to his assessment of the behavioral literature—one that, unfortunately, bears almost no relationship to the behavioral findings form which he purports to draw it.

In the interest of space (and assuming readers have seen Josh’s posts on the speech) I will jump right in with my assessment of Rosch’s claims without trying to restate them.  The speech is readily-available here for those interested in checking my characterizations of Rosch’s comments.

Rosch’s four claims about behavioral economics:

1.  Information asymmetry.  It is deeply problematic that Rosch seems to think that this isn’t something that classical economics has discussed for generations.  More importantly, the idea that it presents a special problem is valid (at least as Rosch seems to see it) only if you act like information is or should be free and that there are no (or small) adverse effects to forcing disclosure of information.  In reality, the creation, assessment and disclosure of information are costly, and it makes no sense to act like there should be no return to these activities or to view as illegitimate the protection by commercial actors of the value they create.

2.  Instant gratification may be more important than long-run maximization.  As Josh points out, we have to assume this refers to hyperbolic discounting.  But even so, the implications of this, if true, are unclear, especially if we take into account (as Rosch seems not to) that regulators are also subject to the effect.  Implicit in much of the behavioral literature (derived, as it is, from constrained and manufactured experimental settings) is that institutions little affect the found effects.  It may even be the case that regulators operating within bureaucratic constraints indeed could be less affected by hyperbolic discounting.  But certainly actors in markets are less constrained than the naked assumption implies, and, either way, the policy implications would seem to be significantly affected by the institutional setting, consideration of which is essential to any legitimate assessment of the value of behavioral economics to the antitrust enterprise.  Unfortunately this consideration seems to be completely lacking here.

3.  Status quo bias.  Again, a large conventional literature on this sort of effect (arising from different sources, perhaps) exists, and the extent to which Rosch is talking about something new is unclear to me.  Even to the extent that it is a new idea, its assessment here falls prey to the same problems I mention above.  Moreover Rosch’s comments fail to reflect the difficulty in differentiating a “normal” or “rational” preference for the status quo arising from, for example, risk aversion, avoidance of transaction costs and the obtaining of costly information from their “irrational,” status-quo biased counterparts.

4.  Sellers may not always behave rationally.  As Josh suggests, this is, at least as Rosch seems to think relevant, an absurd claim on his part.  First off, claiming the theory of the firm for the behavioralists, or ignoring the essential ways in which “conventional” economics accounts for the very things Rosch thinks it fails to account for, seriously calls into question the quality and clarity of Rosch’s thinking on this topic.  Second, everyone knows that perfection is an assumption and not a description of reality.  The constant refrain, sometimes implicit and sometimes explicit, that classical economics “presumes that people will always behave rationally to achieve the best outcome” is, I think, willfully misleading.  Especially along the lines Rosch suggests here (agency costs?  Really? This is something behavioralists invented?), economics has never assumed this kind of perfection, and entire fields revolve around its rejection.

Moreover, there is also a sly and perhaps willful disconnect in emphasis.  The critique ends up sounding like a disparagement of classical economics’ (presumed) description of actual, individual psychology and behavior rather than a critique of a methodological assumption used to achieve better analysis (Josh’s reference to Friedman here is apt, of course).  Saying the behavioralists have a good handle on certain aspects of human psychology is not at all the same thing as saying they have a good approach to making those bits of knowledge systematic and useful.

Rosch’s policy recommendation:

Finally, Rosch pulls all of this together to make a recommendation: Merger review should rely more heavily on documentary evidence of merging parties’ “actual intent.”  In Rosch’s words, neoclassical economics has a problem dealing with behavioral economics because it

suggests [that neoclassical] models are imperfect and that better evidence (i.e., the parties’ documents and testimony) may be just as accurate at predicting competitive effects.

Um, no.  Actually there is nothing in behavioral economics, and certainly nothing in Rosch’s speech, that supports the claim that the parties’ documents may be just as accurate as neoclassical models (nor do I think that most neoclassical economists, other than a few misguided post-Chicagoans, think they should base their analysis of cases solely on abstract theories) at predicting competitive effects.

Of course regular readers know that this is a hot button for me.  My paper with Marc Williamson on the serious problems with relying on documents to infer intent, and on relying on expressions of intent as meaningful to relevant antitrust analysis, must have made little impression on Rosch (in case you haven’t looked at it in a while, the paper, Hot Docs vs. Cold Economics, is here).

Not only does Rosch’s assertion overstate the claims that even behavioralists would make for their ability to understand, interpret and systematize human and group psychology and sociology, it completely glosses over the incredibly thorny problem of the disconnect between that which is intended and that which actually is.  Nothing in the behavioral literature says anything at all about this problem, and it is a serious lapse for a Commissioner of the FTC to suggest that better knowledge (assuming it is better knowledge) about intent permits stronger conclusions about competitive effects.  This is just a non sequitur.

Overall I find the Commissioner’s speech to be seriously lacking.  I understand and applaud the effort to find knowledge useful to the antitrust enterprise wherever it may lie.  But one can’t help feeling that Rosch is a bit too enthusiastic, combative, naïve and, thus, careless in his support for the usefulness of this particular bit of knowledge.