Archives For Richard Thaler

In today’s New York Times, Richard Thaler argues that the Constitutional “slippery slope” argument in the Obamacare case (“Today health care, tomorrow broccoli”) is misguided.  This is a strange argument in this particular case.  We must remember that all of today’s commerce clause jurisprudence (which everyone agrees has greatly expanded the power of the Federal government to regulate economic activity) rests on Wickard v. Filburn, a 1942 case involving a small wheat and chicken farmer in Ohio.  If ever there was a slippery slope, this is it, and it seems rational to fear another in the same Constitutional line.

Russell Korobkin (UCLA) provocatively declares the ultimate victory of behavioral law and economics over neoclassical economics:

I am declaring victory in the battle for the methodological soul of the law and economics discipline. There is no need to continue to pursue the debate between behavioralists (that is, proponents of incorporating insights previously limited to the discipline of psychology into the economic analysis of legal rules and institutions) and the defenders of the traditional faith in individual optimization as a core analytical assumption of legal analysis.

Behavioral law and economics wins.  And its not close.  Korobkin continues:

[T]he battle to separate the economic analysis of legal rules and institutions from the straightjacket of strict rational choice assumptions has been won, at least by and large.  The fundamental methodological assumption of rational-choice economics, that individual behavior necessarily maximizes subjective expected utility, given constraints, has been largely discredited as an unyielding postulate for the analysis of legal policy.  Yes, such an assumption, even if inaccurate, simplifies the world, but it does so in an unhelpful way, much in the way that it is unhelpful for a drunk who has lost his car keys in the bushes to search under the streetlamp because that is where the light is.

The paper is remarkable on many levels, few of them positive.   I understand Professor Korobkin is trying to be provocative; in this he succeeds.  I — for one — am provoked.  But one problem with claims designed to provoke is that they may sacrifice other virtues in exchange for achieving the intended effect.  In this case, humility and accuracy are the first — but not the last — to go.   Indeed, Korobkin begins by acknowledging (and marginalizing) those would deny victory to the behaviorists while magnanimously offering terms of surrender:

Not everyone has been won over, of course, but enough have to justify granting amnesty to the captured and politely ignoring the unreconstructed.

Unreconstructed.  I guess I’ll have to take that one.  Given the skepticism I’ve expressed (with Douglas Ginsburg) concerning behavioral law and economics, and in particular, the abuse of the behavioral economics literature by legal scholars, it appears capture is unlikely.   Indeed, Judge Ginsburg and I are publishing a critique of the behavioral law and economics movement — Behavioral Law and Economics: Its Origins, Fatal Flaws, and Implications for Liberty — in the Northwestern Law Review in January 2012.   A fuller development of the case for skepticism about behavioral law and economics can wait for the article; it suffices for now to lay out a few of the most incredible aspects of Korobkin’s claims.

Perhaps the most incendiary aspect of Korobkin’s paper is not a statement, but an omission.  Korobkin claims that rational choice economics has been “largely discredited as an unyielding postulate for the analysis of legal policy” — and then provides no citation for this proposition.  None.  Not “scant support,” not “conflicting evidence” — Korobkin dismisses rational choice economics quite literally by fiat.  We are left to infer from the fact that legal scholars have frequently cited two important articles in the behavioral law and economics canon (the 1998 article A Behavioral Approach to Law and Economics by Christine Jolls, Cass Sunstein and Richard Thaler and Law and Behavioral Science: Removing the Rationality Assumption from Law and Economics by Korobkin and Tom Ulen) that the behavioral approach has not only claimed victory in the marketplace for ideas but so decimated rational choice economics as to leave it discredited and “unhelpful.”  One shudders to consider the legion of thinkers chagrinned by Korobkin’s conclusive declaration.

Oh, wait.  The citations prove the behavioral law and economics is popular among legal scholars — and that’s about it.  I’ve no doubt that much is true.  If Korobkin’s claim was merely that behavioral law and economics has become very popular, I suppose that would be a boring paper, but the evidence would at least support the claim.  But the question is about relative quality of insight and analysis, not popularity.  Korobkin acknowledges as much, observing in passing that “Citation counts do not necessarily reflect academic quality, of course, but they do provide insight into what trends are popular within the legal academy.”   Undaunted, Korobkin moves seemlessly from popularity to the comparative claim that behavioral law and economics has “won” the battle over rational choice economics.   There is no attempt to engage intellectually on the merits concerning relative quality; truth, much less empirical validation, is not a mere matter of a headcount.

Even ceding the validity citations as a metric to prove Korobkin’s underlying claim — the comparative predictive power of two rival economic assumptions — what is the relative fraction of citations using rational choice economics to provide insights into legal institutions?  How many cites has Posner’s Economic Analysis of Law received?  Where is the forthcoming comparison of articles in the Journal of Law and Economics, Journal of Legal Studies, Journal of Political Economy, Journal of Law, Economics, and Organization, American Economic Review, etc.?  One might find all sorts of interesting things by analyzing what is going on in the law and economics literature.  No doubt one would find that the behaviorists have made significant gains; but one expecting to find rational choice economics has been discredited is sure to to be disappointed by the facts.

Second, notice that the declaration of victory comes upon the foundation of citations to papers written in 1998 and 2000.  The debate over the law and economics of minimum resale price maintenance took nearly a century to settle in antitrust law, but behavioral law and economics has displaced and discredited all of rational choice economics in just over a decade?  The behavioral economics literature itself is, in scientific terms, very young.  The literature understandably continues to develop.  The theoretical and empirical project of identifying the conditions under which various biases are observed (and when they are not) is still underway and at a relatively early point in its development.  The over-reaching in Korobkin’s claim is magnified when one considers the relevant time horizon: impatience combined with wishful thinking is not a virtue in scientific discourse.

Third, it is fascinating that it is consistently the lawyers, and mostly law professors, rather than the behavioral economists, that wish to “discredit” rational choice economics.  Similarly, rational choice economists generally do not speak in such broad terms about discrediting behavioral economics as a whole.  Indeed, behavioral economists have observed that “it’s becoming clear that behavioral economics is being asked to solve problems it wasn’t meant to address.  Indeed, it seems in some cases that behavioral economics is being used as a political expedient, allowing policymakers to avoid painful but more effective solutions rooted in traditional economics.”  There are, of course, significant debates between theorists concerning welfare implications of models, from empiricists interpreting experiments and field evidence.  It is the law professors without economic training that want to discredit a branch of economics.  It is important to distinguish here between behavioral economics and behavioral law and economics, and between rational choice economics and its application to law.  No doubt there are applications of rational choice economics to law that overreach and warrant deserved criticism; equally, there are abuses of behavioral economics in the behavioral law and economics literature.  It is a very productive exercise, and one in which law professors might have a comparative advantage, to identify and criticize these examples of overreaching in application to law.   But with all due respect to Professor Korobkin, if rational choice economics is going to be discredited — a prospect I doubt given its success in so many areas of the law — some economists are going to have to be involved.

Fourth, in the midst of declaring victory over rational choice economics, Korobkin doesn’t even bother to define rational choice economics correctly.  Korobkin writes:

To the extent that legal scholars wish to premise their conclusions on the assumption that the relevant actors are perfect optimizers of their material self-interest, they bear the burden of persuasion that this assumption is realistic in the particular context that interests them.

Elsewhere, Korobkin writes:

My central thesis, which runs through the three parts of the article to follow, is that now that law and economics has discarded the “revealed preferences” assumption of neoclassical economics – that individual behavior necessarily maximizes subjective expected utility . . .

This isn’t the rational choice argument; this barely suffices as a caricature of the rational choice assumption underlying conventional microeconomic analysis.  Korobkin falls victim to the all-too-common misunderstanding that the rational choice assumption is a descriptive assumption about each individual’s behavior.  Not only is that obviously incorrect, and I suspect Korobkin knows it; anyone with even a passing familiarity with rational choice literature realizes that a host of economists — Friedman, Becker, Stigler, and Alchian, to name a few — have long been interested in, understood, and incorporated irrational economic behavior into microeconomics.  The rational choice assumption has never been about describing the individual decision-making processes of economic agents.  Perhaps a model with a different assumption, e.g. that all individuals exhibit loss aversion or optimism bias (or half of them, or a quarter, or whatever), will offer greater predictive power.  Perhaps not.  Economists all agree that predictive power is the criterion for model selection.   That is the right debate to have (see, e.g., here), not whether law professors find uses for the behavioral approach to argue for various forms of paternalistic intervention — and, for note, is still the case that this literature is used nearly uniformly for such purposes by law professors.  Korobkin’s method of declaring methodological victory on the behalf of behavioral law and economics while failing to accurately describe rational choice economics is a little bit like challenging your rival to “take it outside,” and then remaining inside and gloating about your victory while he is waiting for the fight outside.

Korobkin defends his provocative declaration of victory with the argument that it allows him to “avoid an extended discussion” of a number of claims he has already deemed appropriate to dismiss (mostly through conventional strawman approaches) in favor of focusing on new and exciting challenges for the behaviorists.  I offer two observations on the so-called benefits of declaring victory while the battle is still being waged.  The first is that avoiding evidence-based debate is a bug rather than a feature from the perspective of scientific method.  The second is a much more practical exhortation against premature celebration: you can lose while you admire the scoreboard.  Anyone who has ever played sports knows it is best to “play the whistle.”

One final observation.  I recall from Professor Korobkin’s website bio that he is a Stanford guy.  You’d think he’d be a little bit more sensitive to the risk of losing the game while the band prematurely celebrates victory.

Editor’s Note: I invited Professor Thaler to respond to the TOTM Free to Choose Symposium, and he graciously accepted and offered the following response.

Richard Thaler is the Ralph and Dorothy Keller Distinguished Service Professor of Behavioral Science and Economics at the University of Chicago Booth School of Business.

I have now had a chance to read through the contributions to this event and have a few thoughts to share.  I cannot, of course, reply to everything that has been said here, and in any case, most of what I would say already appears in print.  Before getting into specifics let me say one thing up front:  take a deep breath!  These posts have a lot of emotion.  I am not sure why.

On to specifics:

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Douglas Ginsburg is Circuit Judge, U.S. Court of Appeals for the District of Columbia.

Joshua Wright is Associate Professor, George Mason University School of Law.

The behavioral economics research agenda is an ambitious one for several reasons.  The first reason is that behavioral economics requires a theory “true” preferences aside from – and in opposition to — the “revealed” preferences of the decision maker.  A second reason is that while collecting and documenting individual biases in an ad hoc fashion can generate interesting results, policy relevance requires an integrative theory of errors that can predict the sufficient and necessary conditions under which cognitive biases will hamper the decision-making of economic agents.  A third is not unique to behavioral economics but is nonetheless significant: demonstrating that behavioral economics improves predictive power.  The core methodological commitment of the behavioral economics enterprise — as with economics generally at least since Friedman (1953) —  is an empirical one: predictive power.  Indeed, no less than  Christine Jolls, Cass Sunstein and Richard Thaler have described the behavioralist research program as the economic analysis of law “with a higher R-squared,” that is, “a greater power to explain the observed data.”

As I’ve observed previously, there are some good reasons to believe that behavioral law and economics (BLE) scholars do not share these methodological commitments.   I’ve discussed previously the example of failure of BLE scholars to even cite, much less grapple with, the work of Zeiler & Plott (or here) regarding the endowment effect.  Zeiler & Plott present and support the provocative claim that current evidence supporting the endowment effect is better explained by experimental procedures than cognitive biases.  Proponents of regulation based on the endowment effect, in my view, need not agree with this interpretation of these findings but they ought to respond to them if they want to be taken seriously.  Unfortunately, out of the 342 articles in JLR discussing the “endowment effect” from 2006 to present, only 35 cite either Zeiler and Plott article.  I find that ratio discouraging for the discipline of behavioral law and economics generally and the prevailing level of discourse.

Indeed, while David Levine is not referring to the BLE literature, he might as well have been when he writes:

Behavioral economics: love it or hate it – there seems to be no middle ground. Lovers take the obvious fact people are not frictionless maximizing machines together with the false premise that economists assume that they are to conclude that all of economics must be wrong. The haters take the equally obvious fact that laboratories are not the real world to dismiss all laboratory evidence that conflicts with their pet theories as irrelevant. In the end they seem primarily to talk past each other.

How can we improve the discourse and get discussion focused on predictive power and consequences of actual behavioral policies proposed or implemented?  The burden here lies with the skeptics.  As Richard Epstein points out, the behavioralists’ message has been clear and effective; indeed, Bar-Gill and Warren’s article generated the Consumer Financial Protection Bureau.  Behavioral skepticism has proven less effective.

Skeptics, including myself, have been decidedly less effective in convincing their respective audiences that specific behavioral proposals should be rejected and conventional economic approaches should (at least for now) prevail in the market for ideas in the academy and in the policy world.  It is true that the skeptics have a number of forces working against them.  One is that BLE is new and exciting.  Arguing that the “conventional” approach outperforms the newest tool in the toolkit is always an uphill battle.  I’ve alluded to a second reason, failure of at least some of the BLE literature to engage with opposing ideas.  But perhaps most important is the failure of the skeptics to present a comprehensive and convincing case that the conventional economic approach systematically can be expected to outperform BLE when the full social benefits and costs of the various approaches and institutions are accounted for.  I’ve long been of the opinion that two primary reasons for this failure are that different strands of the skeptical literature have talked past one another, and that this has led to a failure to present the “full” case against BLE on the record to be evaluated.

Consistent with this view, the goal of this post is not to present any new ideas about behavioral economics or behavioral law and economics, but catalog the various objections that have been raised in the literature, discussing their interactions, and linking to some of the leading scholarship in the area calling into question the assumed superiority of the BLE approach on a variety of grounds.

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Stephen Bainbridge is the William D. Warren Professor of Law at UCLA School of Law.

Mandatory disclosure is a—maybe the—defining characteristic of U.S. securities regulation. Issuers selling securities in a public offering must file a registration statement with the SEC containing detailed disclosures, and thereafter comply with the periodic disclosure regime. Although the New Deal-era Congresses that adopted the securities laws thought mandated disclosure was an essential element of securities reform, the mandatory disclosure regime has proven highly controversial among legal academics—especially among law and economics-minded scholars. Some scholars argue market forces will produce optimal levels of disclosure in a regime of voluntary disclosure, while others argue that various market failures necessitate mandatory disclosure.

Both sides in this longstanding debate assume that market actors rationally pursue wealth maximization goals. In contrast, my work in this area draws on the emergent behavioral economics literature to ask whether systematic departures from rationality might result in a capital market failure necessitating government regulation. I conclude that behavioral economics is a very useful tool, but that it in this instance it cannot fairly be used to justify the system of mandatory disclosure.

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Thom Lambert is Associate Professor of Law at the University of Missouri

Behavioralism is mesmerizing.  Ever since I took Cass Sunstein’s outstanding Elements of the Law course as a 1L at the University of Chicago Law School, I’ve been fascinated by studies purporting to show how humans are systematically irrational.

It is, of course, the “systematic” part that’s interesting.  We all know that people do irrational things on occasion.  What the behavioralists claim is that humans make the same sorts of irrational decisions over and over — that they are, as the title of Dan Ariely’s popular book puts it, “Predictably Irrational.”  Advocates of “behavioral law and economics,” then, contend that policymakers (legislators, regulators, judges) should account for these systematic departures from rational choice when they craft legal rules aimed at maximizing welfare.  They should not, these advocates assert, presume that individuals are rational self-interest maximizers, as traditional law and economics scholars would assume.

While I’ve long been fascinated by behavioral research, and certainly believe that actual facts about how people behave should trump theory, I’ve been reluctant to sign on to the behavioralist law and economics project.  Initially, I harbored suspicions about the research purporting to establish all these systematic cognitive quirks.   For example, I believe (though I’m not sure) that I was a subject in one of those coffee mug experiments that purports to establish the endowment effect (i.e., the effect by which people ascribe a higher subjective value to an object if they own it than if they don’t and would have to buy it).  We did one of those exercises in one of my law school classes, and reports of the studies often refer to experiments involving law students and coffee mugs.  If that’s the sort of experimental data underlying this supposed quirk, it’s hardly robust.  Indeed, as Charles Plott and Kathryn Zeiler recently showed, the endowment effect studies reach quite different conclusions when the questions are posed differently.

After reading Ariely’s fascinating book, which provides lots of detail on how various studies were conducted, I’m less concerned about data quality.  I still suspect, though, that behavioralists are prone to draw hasty conclusions — both positive and normative — from their experimental findings.  I once explained this concern in a short response piece titled Two Mistakes Behavioralists Make, where I criticized two symposium participants for jettisoning rational accounts too quickly in attempting to explain survey findings and for being too quick to advocate governmental solutions to various cognitive quirks (with little regard for government’s own institutional maladies).

The thing that most worries me about the behavioralist law and economics project, though, is the problem of conflicting cognitive quirks.  What’s a policymaker to do when one heuristic would lead humans to reach a particular non-rational conclusion and another simultaneously operative heuristic would push in the opposite direction? Which heuristic trumps? Without knowing that, we can’t predict what actions people will take. Continue Reading…

Geoffrey A. Manne is Executive Director of the International Center for Law & Economics and Lecturer in Law at Lewis & Clark Law School

The problem with behavioral law and economics (and its behavioral economics cousin) is not that it has nothing interesting to say, but rather that the interesting things it has to say do not mean what its proponents think they mean.  It is one thing to claim that people are less rational than we thought.  It even one thing to claim that people are systematically less rational than we thought, in predictable and important ways.  But it is entirely another to presume that the implication of this is a larger scope for government regulation to protect the market and market actors from the depredations of this irrationality.

Why?  Well, the market, of course.  Just because individuals may be less-rational than we thought does not mean that the complex and nuanced activities of markets can’t account for these deviations (particularly if they are predictable).  Add to this well-canvassed problems like government actors subject to the same biases, the problem of competing and conflicting biases, and the problem of unacknowledged, contrary implications, and the case for doing anything about behavioral quirks is extremely weak.

Thus, for example, let’s grant that, as many behavioralists aver, hyperbolic discounting exists.  Um, so, if that’s right, what should we do about it?  Force everyone to save more of their paychecks for retirement?  Insist on opt-out rather than opt-in retirement investing?  Ban cigarettes? Raise tax rates? (I don’t know if anyone has argued this one yet, but it seems like a plausible implication, and it’s only a matter of time)

Here’s the problem, as I see it:  Let’s say the behavioralists are right that, in the abstract, people save less money for future consumption than they would like.  Richard Thaler’s solution to this problem is the “Save More Tomorrow plan (pdf),” which takes advantage of people’s alleged current hyperbolic discounting to commit them to future savings that they actually want but can’t otherwise adhere to when the future actually arrives.  This is a “libertarian paternalist” (pdf) solution to the problem.

But there is a problem, even with a libertarian brand of paternalism here. Continue Reading…

In a recent NY Times column largely devoted to improving soccer in various ways and how those methods might be used to improve financial regulation as well, behavioral economist and Nudge author Richard Thaler writes the following about the Consumer Financial Protection Bureau:

“Above all, I’d urge the head of this agency to devise rules under the assumption that, someday, he or she will be succeeded by a nitwit.”

Very Epsteinian advice.   Nothing to argue about there.  But in light of our recent discussion of some questionable interpretations of empirical data related to credit cards by Elizabeth Warren (see also Ribstein and McArdle), the widely reported first-choice for the head of the agency (indeed, some describe the decision whether to appoint Warren or an alternative as a test of the President’s backbone — or if not backbone, something else quite serious), Thaler’s comment raises the following tension in my view.

The CFPB as envisioned by Professor Warren is largely based on the insights from behavioral economics.  The idea is to identify instances in which consumers systematically deviate from rational behavior, and propose regulatory solutions that will improve consumer decision-making.  Next, the regulator has to decide what to do to protect the error-making consumers.  There are a number of approaches.  One can reduce the number of errors to zero by banning a product, for example.  But in the Sunstein-Thaler “libertarian paternalism” or “soft paternalism” form, this is done (in principle) by retaining consumer sovereignty over decisions but framing choices to encourage the “right” choice (that is, the one that is not an error).  Error reduction is the name of the game.  And the information required to play this game is substantial.  One must be able to interpret data and distinguish rational error from systematic deviations from rationality that might be prone to “nudges.”  This is the point of the earlier post involving some problems with Professor Warren’s interpretation of some specific data on consumer rationality in the credit card market.  But on top of the availability of data sufficient to identify such errors, and measuring their social cost, and interpreting those data, one must also have information about how consumers will respond to the proposed nudges.  This is complicated.  Some interventions might work.  Others might not.  Others might have perverse unintended consequences.  The welfare effects will be hard to track.  For example, calibrating a “sin tax” for cigarettes on the grounds that individuals hyperbolically discount might seem simple (“impose a tax”), but calculating the right level requires information on the discount rate — which is extremely hard to measure, and for which there is little convergence in the data in terms of reasonable ranges for estimates.  Take the “plain vanilla” requirement in the original CFPA legislation.  Again, it is relatively simple to state the rule: “you must sell a plain vanilla product and introduce it to the consumer before you try to sell alternative products.”  But regulator selection of what constitutes plain vanilla, what the disclosures about both products should look like, and measuring the welfare effects of the intervention are all quite complex.  Not to mention that consumers might be irrational in multiple ways at the same time, i.e. the problem of conflicting quirks, thus making the exercise of isolating and identifying “errors” truly difficult.  Note that none of this is to discourage the science of behavioral economics.  Indeed, the idea is to get regulators to take the science more seriously.

The point is that while I suspect that there are some forms of behavioral-economics-based regulatory proposals that might arise out of the CFPB  that would invoke truly “simple” rules in the sense Thaler seems to be getting at, i.e. rules that even the “nitwit” that succeeds the Chief might be able to implement.  Note that I’m not claiming that regulation based on price theory or even game theory are simple.  But abandoning the rationality assumption in economics adds a layer of complexity.  Even putting other issues with the behavioral approach to consumer protection and regulation generally aside for the moment (what to do when regulators and judges are systematically irrational too, for example), the behavioral approach makes necessary (1) identifying systematically irrational behavior, (2) distinguishing it from rational behavior in a world with search, transaction, and information costs, and (3) designing Sunstein-Thaler-style “choice architecture” to ensure that the social benefits of the intervention exceed its costs render the approach quite complicated relative to alternatives.   For example, “hard paternalism” such as simply banning the credit products at issue involves a much more simple rule. Never regulate is also a pretty simple rule.  I’m not saying any of the three is superior — the point is just that the behavioral approach strikes me as inherently more analytically burdensome to do properly.  Indeed, much of my complaint about regulators who have attempted to invoke the approach is that they do so sloppily and skip steps required both by logic and methodological soundness.

Thus, I suspect that there is a tension that lies between Thaler’s advice to devise simple rules with the behavioral economic approach that he advocates.  Perhaps Thaler has in mind a subset of simple rules that could be implemented by the CFPB.  But his advice is almost certainly at odds with the rules that would have to be put into place to implement many of the behaviorally-informed consumer protection regulatory proposals involving financial products.  Is it possible to design a “nitwit proof” behavioral approach to consumer credit at the CFPB that follows Thaler’s advice and consists only of simple decision rules?  Maybe.  I’m skeptical.  But is it likely based on the current discussions of the CFPB, the use of behavioral economics in the regulatory world and the legal literature, and the complexities of distinguishing irrational error from error economizing on the costs of perfection?  I’d bet not.

UPDATE: Whatever disagreements I might have with Professor Warren over economic theory and interpreting empirical evidence, it should be remarkably obvious both that she is certainly not a “nitwit” and that the word “nitwit” in the title is not a reference to Professor Warren but to Thaler’s use of the term in the article.   Emails and comments ignoring the issues raised in the post — which I hope suffice for interesting discussion on their own as per usual TOTM comment standards — will be summarily deleted.

I’ve been, for some time, a behavioral law and economics skeptic.  Sometimes this position is confused with skepticism about behavioral economics, as in — believing that behavioral economics itself offers nothing useful to economic science or is illegitimate in some way.   That’s not true.  Now, I have some qualms about the explanatory power of some of the behavioral models as well — but the primary critique (in my view) has always been the threat that behavioral economics will be used as the intellectual cover for regulation judged by the preferences of the regulators rather than rigorous economic analysis of any sort.

Recall, that much of behavioral economics amounts to a demonstration that individuals exhibit inconsistent preferences.  But as Glen Whitman points out, the absence of knowledge about true preferences requires that the policy maker make some decisions about actual preferences.   That’s hard to do.  It requires a lot of information.  In the case of hyperbolic discounting, for example, the conventional approach is to arbitrarily assume that true preferences are reflected by the utility function of today’s “self” rather than future “selves.”   The point is that the behavioral law and economic exercise necessarily requires that planners impose some decisions about true preferences — or in the case of firm, optimal decision-making.  What will be the basis for those decisions?  One can naively dream that they will always be founded on the best economic theory and evidence available.  But in the real world, it is apparent that one can and should be concerned that these decisions will reflect the regulators’ priors and own preferences and perhaps also those of special interests.  While there are other important methodological debates about behavioral economics, this argument is at the heart of the Rizzo and Whitman “slippery slope” objections to behavioral law and economics — and suggests that behavioral economics will be used in ways that extend beyond its limitations.

One possible response to the high likelihood of this kind of abuse is to play the “I can’t help it if…” card.  Here’s Richard Thaler in the Cato Unbound exchange, that one “cannot control how my ideas are used, either by those who advocate similar but more intrusive policies.”   But that is hardly satisfying when one is selling the ideas to the general public (now just one-click away at Amazon and sure to “improve decisions about health, wealth and happiness ” all for under $20!).  In the exchange, Thaler seems to at least implicitly agree that the ideas have been or will be used to make bad policy.  Perhaps the ideas should come with an instruction manual for how to implement policies.  But alas, the behaviorists tell us that nobody reads those sorts of disclosures anyway.  Maybe a nudge is in order?  Of course, I think Sunstein and Thaler ought to be able to sell the book without a nudge.  In fact, I bought a copy.  But note than many of the policy proposals in the behavioral law and economic literature — restrictions on credit cards and sin taxes for tobacco and soda come immediately to mind — involve products that some folks will use to make themselves better off and some, because of cognitive biases, will not.  If cognitively biased regulators’ decision-making processes are skewed toward policies that are consistent with their policy preferences and ideological views rather than what maximizes social welfare — one would think the creator of the “choice architecture” concept could come up with something a bit more creative to “debias” the decision-maker than “I cannot control how my ideas are used.”

Its a bit of an odd moment to decide to that influencing the choices of others no longer makes sense isn’t it?  In the CFPA, the so-called “plain vanilla” provision would have required those selling consumer credit products to offer consumers a “plain vanilla” version of the product and disclose the risks of the alternative product before selling any “flavored” variations.  Perhaps what is called for is a similar “plain vanilla” provision for behavioral interventions where the regulator or policy maker must show that they carefully thought through the alternative, “standard” economic interventions before choosing the riskier behavioral intervention.

Its also a critical moment.  Evidence in support of the suggestion that behavioral economics is being used in ways that extend well beyond its limits, and are quite plausibly welfare-decreasing, are not hard to find.  For example, my recent critiques of behavioral antitrust (Nudging Antitrust Part I, Part II) suggest an abuse of behavioral economics to solve policy problems without regard to its limits.  I’ve also pointed out (with co-author David Evans) that the intellectual arguments for some of the regulatory interventions in credit markets found in the CFPA/CFPB, explicitly based on behavioral economics, extend well beyond its logic and limits.   Claims of legal scholars about the policy implications of behavioral economics for consumer contracting also extend well beyond any intellectual and empirical support the behavioral economic literature can provide.  And as readers of TOTM will know, the legal literature in particular has played fast and loose with the endowment effect for quite some time.

Of course, the abuse of behavioral economics by regulators and legal scholars is a danger with any sort of methodological commitment and so, one can equally point out that the same regulators and judges might abuse Chicago School microeconomics, or game theory, or a non-economic methodological commitment, e.g. originalism.  In these situations it is especially important for academics to identify those sorts of abuses.  But it is especially beneficial for leading figures in the “abused” field to stand up and identify policy proposals do not really fit the model.  This is one of the questions that I’ve had about the behavioral economics movement.  Why doesn’t one see a prominent leader of that movement saying: “Wait a minute, that’s not what we had in mind” or “no, that is really not what behavioral economics says.”

Asked and answered.  Much to their credit, in Wednesday’s New York Times, behavioral economists George Loewenstein and Peter Ubel do exactly that.  Loewenstein and Ubel write:

But the field has its limits. As policymakers use it to devise programs, it’s becoming clear that behavioral economics is being asked to solve problems it wasn’t meant to address. Indeed, it seems in some cases that behavioral economics is being used as a political expedient, allowing policymakers to avoid painful but more effective solutions rooted in traditional economics.

While they don’t talk about some of my favorite examples in antitrust and the credit markets, they offer some of their own:

Take, for example, our nation’s obesity epidemic. The fashionable response, based on the belief that better information can lead to better behavior, is to influence consumers through things like calorie labeling — for instance, there’s a mandate in the health care reform act requiring restaurant chains to post the number of calories in their dishes.  Calorie labeling is a good thing; dieters should know more about the foods they are eating. But studies of New York City’s attempt at calorie posting have found that it has had little impact on dieters’ choices.

Obesity isn’t a result of a lack of information; instead, economists argue that rising levels of obesity can be traced to falling food prices, especially for unhealthy processed foods.  To combat the epidemic effectively, then, we need to change the relative price of healthful and unhealthful food — for example, we need to stop subsidizing corn, thereby raising the price of high fructose corn syrup used in sodas, and we also need to consider taxes on unhealthful foods. But because we lack the political will to change the price of junk food, we focus on consumer behavior.

Loewenstein and Ubel also discuss other interventions where standard economics might provide better results:

Our over-reliance on behavioral economics is not limited to health care. A “gallons-per-mile” bill recently passed by the New York State Senate is intended to help drivers think more clearly about the fuel consumption of the vehicles they purchase; research has shown that gallons-per-mile is a more effective means of getting drivers to appreciate the realities of fuel consumption than the traditional miles-per-gallon.

But more and better information fails to get at the core of the problem: people drive large, energy-inefficient cars because gas is still relatively cheap. An increase in the gas tax that made the price of gas reflect its true costs would be a far more effective — though much more politically painful — way to reduce fuel consumption.

The one thing that is missing are examples where the problem is not just that the behavioral intervention improves things marginally while the standard intervention (or the combination of the two) would be optimal, but that the behavioral intervention reduces welfare.  And from some of the examples they use, I suspect I might disagree with the authors on what policy prescriptions “standard” economics would recommend.  I believe that the credit examples in the CFPA/CFPB provide exactly that case; I also strongly believe that behavioral antitrust policy of the sort proposed by Commissioner Rosch (Part 3 of Nudging Antitrust will discuss this next week) would make consumers worse off.

Nonetheless, Loewenstein and Ubel should be applauded as “insiders” starting a high-profile discussion on the limits of behavioral economics.  From the examples the authors give, and the ones I mention above, it appears inevitable that regulators and will abuse the new tools provided them by behavioral economics.  Perhaps its time to talk about what to do about it.  Behavioral economists ought to have something valuable to say about this rather than merely punting.  The question is how to frame the policy discussion in a manner that “debiases” regulators and provide incentives for decisions that are based grounded in theory and evidence and away from their own preferences.  If the plain vanilla proposal or rules like it to encourage serious deliberation about choices are good enough for credit cards, certainly such rules should also sensible for regulatory decisions about credit cards.

Two weeks ago I highlighted the promising looking Cato Unbound forum on the new paternalism kicked off by Glen Whitman, with follow up posts and responses from the King (or co-King along with Cass Sunstein) of Nudge, Richard Thaler, along with Jonathan Klick and Shane Frederick.  I was really excited about the forum, because I have research interests in this area and consider myself a “skeptic” of the new paternalism generally (hey, the Weekly Standard says “prominent skeptic,” but even I don’t go that far).  So — now that the exchange is over — I find myself, well, better off for having read it but disappointed.  I’m going to blog about the disappointing part.  Don’t get me wrong, it started off really well.  Glen came out swinging, Thaler responds (there no slopes, paternalism is inevitable, and by the way, a really odd choice of example for the lack of evidence in favor of slopes: prohibition), Klick and Frederick chime in.

It was the conversation following the initial postings that left me disappointed.  Whitman started off with a post responding to Thaler that pointed out that Thaler ignores a number of his key points.  The most interesting of these points, or at least the one most in need of a serious and thoughtful response, was about the role of opt-out in the new paternalism.  If new paternalism involves simple “choice architecture” that nudges individuals to make choices that are welfare-improving from their own preferences, one must ask the question about what happens when the individuals don’t respond to the nudge!  This need not require a slope mechanism.  For example, one can introduce a “plain vanilla” requirement that requires those selling credit products to consumers to offer a certain, regulator-approved version and disclose risks of selecting non-approved products.  Of course, these non-vanilla products are very much welfare improving for some individuals.  So the real question is how costly it will be for consumers to opt-out from the nudge.  Or if the costs imposed on lenders to satisfy the “nudge” requirement are in fact to costly as to remove the new products from the market or make them relatively more expensive, thus dampening their beneficial effects.

Here’s Whitman raising the opt-out issue:

Whenever they are challenged, the new paternalists place heavy emphasis on the inevitability argument. Don’t fall for it! It is not inevitable that the state must alter longstanding rules of contract law to reflect political judgments about what people “really” want. It is not inevitable that some opt-outs will be subject to onerous conditions. It is not inevitable that certain kinds of contractual terms will be outlawed entirely. It is not inevitable that the state will impose cooling-off periods on certain purchases, or sin taxes on tempting goods. Again, every one of these proposals appears in Thaler’s own work.

Here’s Klick raising the same issue in his second round response:

In some ways, Thaler’s critics are probably projecting the sins of the paternalist paternalists onto him. Thaler’s nudges are generally premised on the assumption that opt-out costs will be trivial. If we have to have a default rule anyway, why not pick the one that makes people best off, and for those with different preferences, they can simply opt out? Under that premise, Thaler is completely reasonable in suggesting that we should not fear when nudges move from private choices to public policies.

As a practical matter, however, most paternalism is not accompanied with these costless opt out provisions in real world public policy. When it is, and large numbers of people do actually opt out, undercutting the policy goals of the paternalists, a common impulse is to foreclose the possibility of opting out. In my previous comment, I painted national Prohibition as following exactly this pattern. Similar stories can be offered regarding more recent smoking bans and a host of other paternalistic interventions. Beyond simply asserting that their suggestions are default rules, leaving people free to make different decisions, perhaps the libertarian paternalists can spend some time discussing how the opt-outs can be preserved in the face of these tendencies.

I’ve searched Thaler’s two responses for an answer to these questions, which strike right at the heart of the new paternalism enterprise, but have found nothing.  Well, that’s not exactly true.  There is an odd debate over whether Thaler 2003 disagrees with Thaler 2010 (Thaler says no, but Thaler 2010 is a better writer).  There is also lots of aggressive tone to go around (“Whitman’s biggest gripes are with the policies that he only imagines that we favor, ones that involve coercion. What part of the term libertarian doesn’t he get?”).   But I did not read anything responsive to the critical point about the costs of opt-outs.

Of course, in many ways the opt-out issue is one about regulatory design.  And, well, its been said by my friend David Zaring that “when you listen to economists” on such matters, “you are listening to amateurs.”   But even if that were true, I’m not sure that is any excuse for economists to stop talking.  But Jonathan Klick makes a better point.  Economists have a, as Jon puts it, “unfortunate tendency of assuming that you can simply implement a policy with all of the important academic nuances intact without worrying about how the policy will interact with other legal and political forces.”  I agree with him that economists that choose to delve into the area of public policy and actual regulation carry the burden of moving beyond the workshop realm of academic musings and even laboratory and field experiment results, and into practical questions of regulatory design.   Thus, it is no defense to say that others are responsible for the analytics behind the design of opt-outs from new paternalism-based regulation.

Jonathan Klick (Penn) is next up in the Cato Unbound forum on libertarian paternalism featuring entries from Glen Whitman and Richard Thaler (and one from Shane Frederick coming).  My initial reaction to Thaler’s response to Whitman was that it was far too dismissive, defensive, and a bit out of tone for my own liking, but completely ignored what I take to be the core issue of the public/private distinction.   Thaler writes as if the notion that government actors might have different incentives than private ones is silly.

Nonetheless, Whitman accuses us (and some of our fellow behavioral economics travelers) of wanting to push people in the directions that we ourselves prefer. I am not sure how we could have been any clearer that this is precisely not our intent, and I am not sure how we would have decided what to push for since Sunstein and I do not agree ourselves. I am a lover of fine wines; Cass prefers Diet Coke. With fundamental philosophical differences such as these, we wouldn’t get very far in pushing in the directions we prefer! This applies to the rest of our gang as well. Matthew Rabin prefers to dress in tie-dyed T-shirts, but I have never known him to lobby for a subsidy for this article of clothing.

Oh, well, gee, I’m sorry then Professor Thaler, I guess there is nothing to see here.  Eh.  Of course, there is something to the distinction and there are, in fact, real threats that behavioral economics will be used as the intellectual cover for regulation judges by the preferences of the regulators and not the people.  There is another fear that if the regulators are so sure that folks liberated from their biases would decide X instead of Y, but they keep choosing Y when nudged, eventually, the regulator figures he needs to shove harder and raise the cost of choosing Y until the individual finally chooses X.  Ah, liberation at last.

Anyway, Klick rightly gets the debate back on track and focused on the right issues :

My fear (phobia?) arises when the distinction between private and public (voluntary and mandatory) becomes lost.  While Thaler is home drinking his fine wines, his buddy, the Diet Coke swilling Sunstein, is in DC, in one of the most important regulatory positions in the country.  Perhaps Sunstein too really embraces the “libertarian” part of libertarian paternalism and, so, will resist the temptation to use his powers to nudge/shove/trick/force people into doing what they really want to do anyway, if they simply understood their preferences well enough.  But others pushing different flavors of the new paternalism feel no such restraint.  A few years ago, the FTC had a bunch of us (including many of the figures Thaler refers to) come to Washington to debate the merits of the FTC and other federal bodies exploiting the insights of behavioral economics so people can better understand what’s good for them.  Who could object to that?  I’m sure no agency will use behavioral economics insights to exploit people for the sake of broader policy goals as opposed to simply liberating people from their biases.

Even in the public sphere, however, perhaps a libertarian/soft paternalism is possible.  If choice is preserved, on what grounds do guys like Whitman and me object?  Well, Whitman and Rizzo have written that it is likely that the soft paternalists will not (cannot) generally have sufficient information to pick the right defaults, choice architecture, and so forth.  While I might be willing to trust Thaler, Sunstein, Rabin, and other experts to have the judgment (despite Rabin’s penchant for tie-dye) and the prudence to take their limitations and caveats seriously, only acting when they are likely to do more good than harm, these aren’t the folks who will be making the relevant decisions.  It’s going to be bureaucrats and legislative staffers, fueled by the counsel of lobbyists as to how to do the nudging (and, remember, if you’re OK with that because you like who is currently at the helm, you presumably wouldn’t have wanted the previous guy to have had the power and vice versa).

Further, the government is not generally known for leaving people free to opt out of the rules it deems to be the best. It prefers one-size-fits-all in many situations.  For example, the Consumer Financial Protection Agency Act of 2009, which uses behavioral economics as its road map, proposed to make opt-outs very difficult when it allowed them at all, presumably because its proponents have little faith in the judgment of individuals even after they are nudged in the right direction.  Even if economists purport to be pure subjectivists when it comes to judging preferences, policymakers view such a perspective as crazy talk.

The excellent lead essay is from Glen Whitman, with responses planned from Richard Thaler, Jonathan Klick and Shane Frederick.  It should be a very interesting exchange.  Here is, in my view, one of Whitman’s best paragraphs:

Nevertheless, Sunstein and Thaler (in Nudge) respond to the slippery-slope argument by saying we should “make progress on those [initial proposals], and do whatever it takes to pour sand on the slope.” Saying we should go forward with the initial interventions is akin to saying we should do something because it promises present benefits, while downplaying potential future costs. This is exactly the kind of error in private choice that new paternalists think demands correction. The slope risk must be counted among the costs of the initial intervention.

And the conclusion:

Real people are susceptible to cognitive biases that can lead to poor decisions. It’s only natural to want to help them make better choices.

But no one is immune to bias. Not social scientists, and certainly not policymakers. In translating behavioral science into policy, we may be led astray by the very same cognitive defects we wish to correct. New paternalist policies, and indeed the intellectual framework of new paternalism itself, create a serious risk of slippery slopes toward ever more intrusive paternalism.

Instead of a paternalism-generating framework, I recommend a slope-resisting framework — one that stresses private options and opportunities for self-correction, and that emphasizes important distinctions such as public vs. private and coercive vs. voluntary. That doesn’t mean we will never adopt any new paternalist policies. But if we do, we will hopefully stand a better chance of not slipping down the slope.

Do check out the whole thing and the responses — which appear to be planned for the remainder of this week and early next week.