By Guest Author 21/09/2016 9


This is the first in a three-part guest post series from the Morgan Foundation’s Jess Berentson-Shaw and Geoff Simmons exploring the legacy of the myth of the rational human – Homo economicus.

When the facts change, I change my mind. What do you do, sir?

–  J.M. Keynes

Assumptions are science’s dirty little secret. We all make them, but we don’t spend enough time talking about them and examining them. Assumptions are necessary to make sense of the world. But often in the fullness of time science can lift the veil of our ignorance and prove our assumptions wrong.

Before Copernicus we thought the Earth was the centre of our solar system. Bible scholars calculated the Earth was 4,000 years old, give or take a few Noahs. We even once thought smoking was healthy.

Like these other paradigm shifts, the fundamental assumptions held by many economists have been systematically proven wrong in recent years, but they still cling to them like a rock after Noah’s flood. It is time for the discipline to grow up and consign the myth of rational humans – homo economicus – to history along with Bigfoot and the Yeti (apologies to the Bigfoot and Yeti hunters out there, there is a chance you still might be right).

Homo Economicus is born

This species first appeared in the imagination of economists in the late 19th century. They assumed that all humans are “rational”, they have perfect knowledge and perfect ability in the current market to enact “free choice”. By assuming that humans were rational it opened economics up to the rigour of mathematical modelling; which in the eyes of many gave it a leg up from the social science club to the dizzying heights of the hard sciences.

LOL.

Early economists made this and other assumptions in the full knowledge that they were an approximation – at best – of reality. When viewed across a large population that assumption holds some credence; every population has a bell curve and on average that population will usually act in a broadly rational way. But the assumption was never intended to apply to each and every member of the population. And yet over time, these elegantly simple assumptions have been absorbed by successive economics graduates through a process of osmosis. The folly of this was pointed out as early as 1977 by Nobel Laureate Amartya Sen in his paper Rational Fools.

 

Homo economicus

 

Instead of heeding Sen, the assumption of rationality flourished, underpinning the neoliberal revolution of the 1980s and 1990s. And it isn’t hard to see why, because these assumptions support the agenda that they wanted to advance: less government intervention. For homo economicus “choice” is a good thing, and any intervention by government that reduces this “choice” is inherently a bad thing.

Given the mixed results of the neoliberal experiment, you’d think that economists would happily revisit their basic assumptions. Yet some are so blinkered they merely see the problems (such as a dive in wellbeing of the most vulnerable groups in society) as evidence we should reform further. In order to challenge the out-dated assumptions of conventional economics, some psychologists and economists are now working together, creating a whole new sub-discipline: behavioural economics.

Behavioural economics

Behavioural economics is the meeting of economics and the science of understanding human behaviour (the discipline of psychology, mainly). Using evidence from psychology and the social sciences, economists are starting to understand that how people respond in a market is about way more than rational choice.

Some 95% of our purchase decisions made every day are subconscious – that is to say they are based on habits, stereotypes, bias, short cuts in our thinking and behaviours if you will, rather than explicit conscious rational thought. There are two major factors that influence our decisions that are distinctly non rational; our early development and experiences, and our physical environment. What happens during our time in the womb and childhood, both socially and physically, determines how our genetics are expressed and the very structures of our brain. And our environment continues to subtly influence our decisions throughout our lives; the ‘default’ has an enormous bearing on our choices as suggested in the book Nudge.

Why people behave as they do – often acting against their own self-interest – is a complex business, but needless to say we constantly do it, and mostly it is neither intentional, thought out or rational. We now realise that people are not robots.

Stay tuned for the next post on how Homo economicus has led public health policy down the wrong path…

Jess Berentson-Shaw is an evidence agitator at the Morgan Foundation. Jess has a PhD in Health Psychology, and has worked in the health and social sciences field with some (very nice) economists. She does lack the common sense of many economists, but then we are all irrational, just some less than others.

Geoff Simmons is an economist and General Manager at the Morgan Foundation. He is less academically qualified than Jess, with a piffling Honours degree in Economics from Auckland University. But anyone can call themselves an economist.


9 Responses to “Is homo economicus extinct?”

  • Hmm
    Isn’t this satisficing choice market-behavior you describe (aka Simon) a type of rational behaviour?

    Doesn’t rational in economics mean to behave consistently with preferences rather than being super-computers?

    Didn’t Simon get a Nobel prize for his work in behavioural economics in 1978? Wouldn’t it be true to say that this discipline isn’t being created, but has actually been around for quite a few decades now? Wasn’t Peter Earl teaching it at Lincoln Uni in the early 1990s?

    If it’s only being created why has it been present in first year economic textbooks for many years now? Why am I teaching it in my introductory microeconomics class?

    Could you please identify your source for ‘ For homo economicus “choice” is a good thing, and any intervention by government that reduces this “choice” is inherently a bad thing.” I’ve not come across this before. Thank you.

  • First I really do have to ask, What is neoliberalism and how does it differ from,well, liberalism? Liberalism has been around since John Locke, David Hume, Adam Smith etc so when exactly did it become “new”?

    Homo economicus is not going extinct because he never existed in the first place. And economists have always known this. The point is about modelling and the assumptions that we make to model certain situations. The standard neoclassical model is useful for many situations, but not all. It is useful here (http://tinyurl.com/zpqnn3l) for explaining the stupidity of rent controls. But, on the other hand, this model can not explain firms, it is after all a zero transactions cost model, and this fact has been known since 1937, so its not exactly news to anyone. As Brendan Moyle has pointed out Herbert Simons work on bounded rationality goes back more than fifty years while the work of people like Cyert and March has also been around since the early 1960s, so little new there. Any number of other economists over the years have had issues with the standard model. An an example take the assumption of utility maximisation. The Nobel Prize winner, and greatest economist of the 20th century, Ronald Coase was not much of a believer in the usefulness of utility theory whereas his friend and fellow Nobel winner Gary Becker was. See http://tinyurl.com/gwhyl4a for an all too short video of an exchange between them on this point. I actually think Becker has the better of the argument.

    I share Brendan’s confusion over your comment “‘ For homo economicus “choice” is a good thing, and any intervention by government that reduces this “choice” is inherently a bad thing.”” Do economists really think this? I means if we look at Oliver Williamson’s Nobel lecture we find this: “[Nobel winner] James Buchanan subsequently distinguished between lens of choice and lens of contract approaches to economic organization and argued that economics as a discipline went “wrong” in its preoccupation with the science of choice […].” That doesn’t sound like someone all fired up by choice.

    In short Berentson-Shaw and Simmons offer us a straw man. Homo economicus and the standard neoclassical model is useful as a modelling tool in some, many, situations, but not all. And economists are well aware of this fact.

    • Happy to discuss these points now that the other blogs are up; we’ve provided concrete examples of how this mindset affects and infects the debate, so I certainly don’t think this is a straw man.

      Economists need to question our fundamental assumptions a lot more closely.

  • Nice work Jess & Geoff.

    I’ll look forward to reading the next two installments and in the meantime congratulate you on raising these important issues.

    The economics literature is of course very diverse but the applications of economic arguments occur outside universities. It is these real world applications that affect our lives. When policy recommendations rely on economic reasoning (as is very often the case) it is fair and indeed necessary to critically examine that reasoning.

  • Rational economic man is the foundation of all thought emanating from the Electricity Authority. It’d be great if you could explain to them that they need to use another model – and fast – as energy is undergoing rapid and disruptive change and their economic and legislative responses are well off the pace.

  • “Thinking, Fast and Slow” By Daniel Kahneman is a great resource for anyone interested in this field.

  • I am waiting for the paradigm shift from the gullible gravity based universe(one derived from the blackboard but taught as gospel in classrooms), to a common sense electric universe (based on empirical facts)