Tuesday, July 4, 2017

Thinking, Fast and Slow IV

As with several of the books I've read recently, I became bogged down in this one and grew tired of the text. Nevertheless, it covers an important topic and is worth the time. Part IV adds a slew of additional concepts and research, emphasizing ideas related to behavioral economics. I did not feel that Kahneman did a good job integrating all of the threads that occurred throughout the book, and I could only gather that Part IV was the section that would interest economists. For example, he contrasts prospect theory, which is based on his research, with utility theory, which has dominated economics for at least a century. The gist, especially in this section, is that humans do not always make rational decisions, and that the traditional idea of the rational agent in economics seriously misrepresents reality. As in the earlier sections, I had a hard time sustaining an interest in the research. For example, he places a lot of importance on what is known as the Allais Paradox:

In Problems A and B, which would you choose?

A. 61% chance to win $520,000 or 63% chance to win $500,000

B. 98% chance to win $520,000 or 100% chance to win $500,000

Most people, including economists, pick the 61% chance in A and the 100% chance in B, and these are the incorrect answers based on purely rational criteria. This is not intuitively obvious, and Kahneman explains the reasoning in detail. I thought it was a rather technical and roundabout way to make a point, and it seemed more like a lesson in formal reasoning than a substantive lesson in psychology. From my point of view, it is obvious that people would have difficulty with a problem like this, because there has been practically nothing in our evolutionary past to prepare them for it. Throughout most of the history of mankind everyone was illiterate, and currency and formal mathematics did not exist. If you look into your own ancestry, you will probably find illiterate ancestors within a few generations. There is nothing odd or unexpected in these results.

The significance of behavioral economics derives almost entirely from the fact that classical economics is based on an assumption that has no empirical basis, namely, that humans are rational agents. To be sure, we are capable of making rational decisions, but much of the time we do not. I am glad that behavioral economics came along, because it is a corrective to a flawed methodology, but I still get the feeling that it is too little, too late. I am reminded of Thomas Piketty's book, Capital in the Twenty-First Century, which also caused a furor in economics but was derived from basic research that could have been done decades ago. In Capital, Piketty showed through straightforward historical data that capitalism tends to produce wealth inequality, which contradicts the almost universal belief among economists that economic prosperity raises the boat for everyone; as an economy advances, the standard of living may improve for most of the population, but the wealth gap between the rich and poor continues to widen. Piketty also went on to suggest the rather obvious but often loathed solution: raise taxes on the rich. From these two "breakthroughs" I get a visceral sense that much of what passes for economics is a borderline scam, and therefore, rather than marvel at the works of Piketty or Kahneman, I wonder why someone didn't do it fifty years ago.

As for Kahneman himself, there are aspects to his position that I find too cautious and not particularly admirable. In the closing chapter he describes the general thrust of behavioral economics as offering a more realistic but messier approach to economics than the Chicago school, which is based on the idea that we are rational agents who do not make mistakes. The Chicago school, he says, lends itself to the politics of libertarianism; though he doesn't say so, it is also compatible with the delusional world of Ayn Rand, who believed in the "great man" theory, repudiated by Kahneman in an earlier chapter, in which a few talented people run the world and are fully entitled to the benefits of their superior skills, with the less-talented riding on their coattails. Libertarians generally advocate free markets and reduced intervention by governments regardless of the social problems that crop up. Kahneman, recognizing that people are at best only partly rational, is sympathetic with the views of Cass Sunstein, who advocates what is known as libertarian paternalism, in which ordinary people receive some protection from the rational agents who exploit them. Though his intentions seem good, Kahneman does not closely examine libertarian dogma, and his position seems to be that the political system should incorporate some sort of economic noblesse oblige in order to have a fair society. There is a little hypocrisy in arriving at this view after devoting hundreds of pages to demonstrating how everyone, including the so-called rational agents, makes errors in their thinking processes. As he describes it, there is little to distinguish libertarian paternalism from the divine right of kings, in which a monarch takes some responsibility for the well-being of the serfs. Here I think Kahneman is being deferential to his laissez-faire economics colleagues, and in the process he seems to become intellectually dishonest. If sloppy thinking is the intractable problem that Kahneman has made it out to be, the continued adherence to familiar modes of governance is almost guaranteed to produce the scenarios described by Jared Diamond in Collapse.

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