I Agree with Larry Summers

22 September 2015 at 12:03 pm 7 comments

| Peter Klein |

Justin Fox reports on a recent high-powered behavioral economics conference featuring Raj Chetty, David Laibson, Antoinette Schoar, Maya Shankar, and other important contributors to this growing research stream. But he refers also to the “Summers critique,” the idea that key findings in behavioral economics research sound like recycled wisdom from business practitioners.

Summers [in 2012] told a story about a college acquaintance who as a cruel prank signed up another classmate for 60 different subscriptions of the Book-of-the-Month-Club ilk. The way these clubs worked is that once you signed up, you got a book in the mail every month and were charged for it unless you (a) sent the book back within a certain period of time or (b) went through the hassle of extricating yourself from the club altogether. Customers had to opt out in order to not keep buying books, so they bought more books than they otherwise would have. Book marketers, Summers said, had figured out the power of defaults long before economists had.

More generally, Fox asks, “Have behavioral economists really discovered anything new, or have they simply replaced some wrong-headed notions of post-World War II economics with insights that people in business have understood for decades and maybe even centuries?”

I took exactly the Summers line in a 2010 post, observing that behavioral economics “often seems to restate common, obvious, well-known ideas as if they are really novel insights (e.g., that preferences aren’t stable and predictable over time). More novel propositions are questionable at best.” I used a Dan Ariely column on compensation policy as an example:

He claims as a unique insight of behavioral economics that when people are evaluated according to quantitative measures of performance, they tend to focus on the measures, not the underlying behavior being measured. Well, duh. This is pretty much a staple of introductory lectures on agency theory (and features prominently in Steve Kerr’s classic 1975 article). Ariely goes on to suggest that CEOs should be rewarded not on the basis of a single measure of performance, but multiple measures. Double-duh. Holmström (1979) called this the “informativeness principle” and it’s in all the standard textbooks on contract design and compensation structure (e.g., Milgrom and Roberts, Brickley et al., etc.) (Of course, agency theory also recognizes that gathering information is costly, and that additional metrics are valuable, on the margin, only if the benefits exceed the costs, a point unmentioned by Ariely.)

Maybe Larry and I should hang out.

Entry filed under: - Klein -, Management Theory, Methods/Methodology/Theory of Science, Myths and Realities, Nothing New under the Sun.

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7 Comments Add your own

  • 1. JKL  |  22 September 2015 at 2:06 pm

    In the book The Women´s Paradise Zola explains how vendors used “behavioral economics” in the XIX century

  • 2. michael webster  |  23 September 2015 at 7:43 am

    Yes, of course many people “knew” these ideas. And lots more.

    But, that really is not the point.

    The interesting challenge for some academics is to be able modify the foundations of the expected utility model to be able to accommodate these ideas.

    For example, it is not obvious how to accommodate both the idea that defaults count & the evidence for what is called, mistakenly in my view, loss aversion.

    Loss aversion looks odd from an expected utility point of view: going down 5 utiles doesn’t cover the same “distance” as going up 5 “utiles”. Up and down the utility curve.

  • 3. Peter Klein  |  23 September 2015 at 12:43 pm

    Yes, of course, that may be an interesting intellectual puzzle for those committed to neoclassical utility theory. But not very important or useful for management, for public policy, etc.

  • 4. Bee  |  23 September 2015 at 8:20 pm

    I’m not sure how significant an insight “losses loom larger than gains” really is in the real world or the world of subjective utility as articulated by Austrians. I think neither would be comfortable with more than cardinal ranking of utility as a yard stick.

  • 5. Brian C. Albrecht  |  24 September 2015 at 12:35 pm

    To quote one of my favorite economists talking about experimental economics:

    ” But do you really need to invest 5-7 years getting a PhD in economics to do this sort of work? Is this the most valuable use of the best and brightest in the field?”


  • 6. Peter Klein  |  24 September 2015 at 1:58 pm

    What do you mean, “one of”?! :)

  • 7. David Hoopes  |  9 December 2015 at 12:46 am

    Robin Williams’ character (Dr. Sayer) discusses his experiment to determine if an earthworm that ate some part of another earthworm (one that had learned a trick) would then know the trick.

    Dr. Sayer: [in job interview] It was an immense project. I was to extract 1 decagram of myelin from 4 tons of earth worms.

    Dr. Sullivan: Really!

    Dr. Sayer: Yes. I was on the project for 5 years. I was the only one who believed in it. Everyone else said it couldn’t be done [earthworms “learning” by eating the other earthworms].

    Dr. Kaufman: It can’t.

    Dr. Sayer: I know that now. I proved it.

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