What is the logic behind the 2017 Nobel Prize in economics

Leer en Español: Economía del Comportamiento: el futuro es más simple

Behavioral economics is the hot topic in modern day economics after Richard Thaler and Daniel Kahneman won Nobel Prizes on the subject both in 2002 and 2017. Said branch of economics pairs up with psychology to give what is dubbed as a more realistic approach to economics, the science of human decisions.

What we know so far

Today’s world is shaped by the neoclassical model of economics. This model defines it as the science that studies how individuals, corporations, and any social conformation makes decisions and assigns scarce resources.

Under our usual economic model agents are described as “rational”. Rationality means that individuals will always act according to their best interest and, in case of making a mistake, the environment will give the information needed to reach the equilibrium or the right answer.

The definition of “what’s best for me” for neoclassic theorists is written as a “utility function”, a way to rationalize the pleasure one takes from the consumption of any given good or service. Theory says you always know what you like, you know what you prefer among options regardless of their order and that you will always want more consumption, but each time that you consume, you will become less happy.

Other conditions of our economic model assume we are patient, that our valuation of risk is given, that we only think about our own benefit, and that we possess complete information about our surroundings regardless of the situation we are immersed in.

What behavioral economics includes vs the neoclassic model

Behavioral economics doesn’t aim to change the definition of the study of economics, it only aims to deepen its application by considering variables that are traditionally disregarded from the analytic inspection. Richard Thaler signals that behavioral economics won’t undermine traditional economics, it only updates it.

The main rupture from the ideal economy brought on by neo-classics is that not all humans are geniuses. In reality, we actually lack self-control, our capacity for processing information is not perfect, our emotions actually affect our decisions, and that we will sometimes do things for others; a thing the current model doesn’t understand.

Based on the understanding that risk aversion depends on emotions and is not a static decision, that our neurons work differently when benefits involve present returns rather than future returns, and that our decisions depend on what others decide without meaning it’s rational, it opens the path to create “nudges”, indirect suggestions that achieve voluntary compliance to given objectives.

Nudges at work 

Under the neoclassical model, two ways of saying the same thing will generate the same impact and that is something that is not necessarily true. Picture this, you are a patient that is being examined by a doctor. At the moment of retrieving the results the professional can either say:

1. a)   You have a 20% chance of passing away
2. b)   You have an 80% chance of surviving

Even though the same information is provided, answer a) will trigger fear on the patient while b) will trigger hope. Organizations such as BMC Medic Ethics have used this kind of examples to create communication guidelines by which doctors can maintain a positive link with their patient so cooperation is achieved, which leads to efficient solutions.

Latin American Post | David Eduardo Rodríguez Acevedo

Copy edited by Susana Cicchetto