Does Bounded Rationality Justify Paternalism?

18 September 2006 at 5:48 pm 2 comments

| Peter Klein |

Herbert Simon’s notion of “bounded rationality” has long been an important concept in organization theory (March and Simon, 1958; Cyert and March, 1963). More recently, bounded rationality is invoked by Oliver Williamson to explain why real-world contracts are incomplete, and why specialized “governance structures” are needed to handle the coordination and incentive problems produced by unanticipated change. But does bounded rationality have political implications?

John Cassidy’s recent New Yorker article on “neuroeconomics” suggests that because of bounded rationality, and cognitive biases more generally, individuals cannot be trusted to act in their own best interests, and that paternalistic measures such as forced savings and mandatory “cooling off” periods before making large purchases protect people from making foolish and irrational decisions.

Ed Glaeser doesn’t buy it: “[F]laws in human cognition should make us more, not less, wary about trusting government decisionmaking. After all, if humans make mistakes in market transactions, then they will make at least as many mistakes in electing representatives, and those representatives will likely make mistakes when policymaking.” He’s right, of course — a straightforward application of comparative institutional analysis. (Via Russ Roberts)

NB: For some implications of bounded rationality for the modern theory of the firm see this article.

Update: Listen to Glaeser discuss “soft paternalism” here.

Entry filed under: - Klein -, Classical Liberalism, Institutions, Theory of the Firm.

Kuhn and Scientific Realism Paper on Freedom and Entrepreneurship

2 Comments Add your own

  • 1. Eric H  |  18 September 2006 at 8:50 pm

    If I understand Schwarz’ Paradox of Choice correctly, a cooling off period might have the opposite of the intended effect. Given more time to consider alternatives, people might not make a good purchase because they are given time to imagine all of the purchases they could have made, some of which might well be worse than the original purchase. They might also get frozen by the fear of making the wrong choice, and therefore making no choice at all when the original was “correct”. All of this because of … bounded rationality. It’s a two-edged sword, and I see no reason to put it in the hands of a species suffering from at least as many problems as we homo sapiens do (homo bureacraciens).

  • 2. David Gordon  |  19 September 2006 at 10:36 am

    Richard Epstein has an excellent discussion of cognitive bias arguments for state intervention in Skepticism and Freedom (University of Chicago Press, 2003).

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