Overview of Behavioral Economics

29 June 2006 at 8:08 am Peter G. Klein 5 comments

| Peter Klein |

Behavioral economics is profiled in “The Marketplace of Perceptions,” from the March-April 2006 Harvard Magazine. Not a puff piece, exactly, but certainly a very friendly account. Excerpt:

As recently as 15 years ago, the sub-discipline called behavioral economics — the study of how real people actually make choices, which draws on insights from both psychology and economics — was a marginal, exotic endeavor. Today, behavioral economics is a young, robust, burgeoning sector in mainstream economics, and can claim a Nobel Prize, a critical mass of empirical research, and a history of upending the neoclassical theories that dominated the discipline for so long.

(HT: Greg Mankiw)

Entry filed under: - Klein -, Methods/Methodology/Theory of Science.

Crowdsourcing and Switching Costs Copying the Physicists

5 Comments Add your own

1. simon | 29 June 2006 at 10:04 pm

BDT the source of BE has been the systematic study of how people make decisions in lab settings or when they do not have experiential context. The field has amassed a vast catalogue of “biases” that humans commit when making decisions. The problem is that the external validity of the work is simply to great to ignore (yes they can ask another groups of students the same task and repeat the results). Most of the work simply does not translate well into the “real” world that they proport to study. One can also demonstarte that construct and internal validity are weak in many of the works presented.

The problem is that the catalog is buldging and the theory remains devoid of merit. We have generated a number of fancy words to catalog the phenomena but not much to explain it. Framing, Anchor and Adjust, Recency, Prospect Theory are quasi-pyschological descriptions. No real tests are made of the cognitive processes at work. Researchers merely show the phenomena occurs. That is we cannot see why the effects come and go. Prospect theory is just another theory that describes a phenomena but does not offer a utility function that is materially better than the alternative. By that I mean the bounds are not explained. One can read many papers that make slight adjustmets to the explain different results.

A further problem that I have with BE is that it does not explain markets or exchanges. It focuses on pyshological phenomena (It is second class cognitive psychology). Given that it rarely characterizes market or exchange phenomena I do not see it pushing the horizons of our knowledge beyond what we have already learned from BDT.
2. Peter Klein | 29 June 2006 at 10:27 pm

Simon, regarding your first point, Levitt’s latest paper (with John List) makes exactly this point, namely that results from laboratory experiments don’t easily generalize to real-world settings.

Here is the abstract:

An important question facing experimental economists is whether behavior inside the laboratory is a good indicator of behavior outside the laboratory. We begin with a model that assumes the choices that individuals make depend not just on financial implications, but also on the nature and extent of scrutiny by others, the particular context in which a decision is embedded, and the manner in which participants are selected. To the extent that lab and naturally-occurring environments systematically differ on any of these dimensions, the results obtained inside and outside the lab need not correspond. Based on theory and empirical evidence, we argue that lab experiments are a useful tool for generating qualitative insights, but are not well-suited for obtaining deep structural parameter estimates. We conclude that the sharp dichotomy sometimes drawn between lab experiments and data generated in natural settings is a false one. Each approach has strengths and weaknesses, and a combination of the two is likely to provide deeper insights than either in isolation.
3. Abi | 3 July 2006 at 7:18 am

[Begin Quote]
To be fair, the naysayers would have agreed that the rational model only approximates human cognition—“just as Newtonian physics is an approximation to Einstein’s physics,” [David] Laibson [professor of behavioral economics at Harvard] explains. “Although there are differences, when walking along the surface of this planet, you’ll never encounter them. If I want to build a bridge, pass a car, or hit a baseball, Newtonian physics will suffice. But the psychologists said, ‘No, it’s not sufficient, we’re not just playing around at the margins, making small change. There are big behavioral regularities that include things like imperfect self-control and social preferences, as opposed to pure selfishness. …”
[End Quote]

You’ve got to love the way the behavioral economists frame their field by using a physics analogy.

Just wanted to point this out because your following post is titled “Copying the physicists”!
4. Peter Klein | 3 July 2006 at 9:41 am

Gotta love those Freudian slips! :-)
5. Peter Klein | 3 July 2006 at 4:16 pm

Here’s Eszter Hargittai with another complaint about experiments: too often the subjects are college students, whose behavior may not be typical of the adult population. (Let’s hope not.)