Sunday, August 5, 2007

Homo Economicus and Other Straw Men

Quite a lot of political arguments seem to depend on whether the economists have got it right. Broadly speaking (and yes, this is a horribly broad generalization with lots of counterexamples) the economists tend to favour more "conservative" policies such as trade liberalisation, low taxation and deregulation, which presents a problem for people who disagree with these policies.

Economics tries to be an academic discipline that is above politics. Whilst it doesn't always succeed, it does favour arguments with intellectual rigour over soundbites and statistical evidence over anecdotes. So if you are a politician or pundit who disagrees with the majority of economists then you have some explaining to do.

The most common starting point for such an attack is the "rational actor" assumption that lies at the foundation of most economic models. This makes a number of assumptions about people:
  • People only care about money. Actually this is an extra simplifying assumption. The basic rational actor theory supposes that people seek to maximise "utility" (i.e. whatever it is that makes them happy). In practice economists usually have to equate this with money on the assumption that money buys happiness.
  • They are universally greedy and amoral, and so if someone sees a way to get money then they will automatically go for it regardless of the consequence for others.
  • They see no difference between options that have the same "expected value". In other words they would see no difference between $10,000 in their pocket and a 10% chance of $100,000.
  • They are stunningly intelligent and informed, able at the drop of a hat to calculate which of half a dozen cell phone plans (each with its own combination of peak, off-peak, weekend, roaming, subscription charges, bundled handsets and monthly minutes) is going to minimise their phone bill for the next year.
This is not a pretty picture of human beings. It also has some obvious gaps. Why do people give to charity? In some cases they might be buying prestige and status, but thats not a universal explanation. More generally, why do some highly talented people prefer to work as teachers (notoriously underpaid) or go and work helping extremely poor people (some of whom are poor because they are mentally unstable, violent, drunk, or just have very bad personal hygiene). Whatever made Linus Torvalds write Linux it wasn't an expectation of monetary gain. Yes, he's got a job out of it, but there are are less risky and more lucrative ways of exploiting a talent like that than giving something away. For that matter I've written a bit of open source software myself. According to classical economic theory I should have spent that time beavering away at work earning myself a promotion.

The mythical human being who behaves like this is often termed "homo economicus"; economic man. He is such a gross approximation to real human beings that I often think of h. economicus as a stick figure portrait. For those who disagree with the "economic conservative" consensus this is a clear point of attack: demonstrate that economics rests on such shaky foundations and you can cast doubt on the conclusions. However this is very much a straw man attack. Economists use homo economicus because it makes economic questions analytically tractable, not because it leads them to pre-defined answers. In this they closely resemble scientists from other disciplines who will use linear approximations rather than precise models because they are analytically tractable. The key question is whether the analysis is sensitive to the difference between the simplified model and reality.

And the economic models based on h. economicus do seem to match with reality reasonably well. Countries with high levels of taxation, protectionist policies and generous social benefits really do seem to wind up with a lot more slums and shanty towns than countries with low taxation, open trade and limited social support. If protectionist policies were good for people as a whole then an economic embargo ought to be welcomed as an opportunity to build up national industries, when in fact its real impact can be economic destruction.

So I generally take a dim view of political platforms that dismiss economics. Economists are not always right (an old joke says that if you laid all the economists in the world end to end they still wouldn't reach a conclusion). But before I will vote for a politician who disagrees with the mainstream economic consensus I'd want to see a detailed rebuttal explaining exactly why the economists are wrong in this case. And complaining about h. economicus isn't going to cut it.

5 comments:

Tim said...

I wonder at your assertion that protectionist high-taxation countries have more slums than non-protectionist low-taxation open trade countries do. Looking at say an unemployment map of Europe (I can't find one online, but their is one in the news paper) the first thing I notice is that France is the highest unemployment and Denmark the lowest, the more conservative countries are in the middle it seems.

magnus said...

I remember reading about experiments in economics. There aren't many types of experiments that are easy to set up or that are reasonably close to reality, but auctions is one. The outcome was that economists behaved much more like homo economicus than "regular people".

I'm also very curious about your statement about countries with "high levels of taxation, protectionist policies and generous social benefits". What do you base this on? What countries have all three of these? Just like tim pointed out, many European countries have two out of the three but shanty towns and slums aren't very common. On the other hand Indonesia, with low taxes and hardly any social benefits have a lot of slums. To me this suggests that the three things you list aren't neither sufficient nor necessary.

Anonymous said...

I'm not sure what you are defining as protectionist high-taxation countries, but I would imagine that should not be the US, and that leaves me not agreeing so much with your generalization. Just the opposite actually. The US has one of the highest poverty rates of all the post-industrialized nations.

The latest US stats (www.census.gov) give 12.7 living below the poverty line of 10,488/9,669 for a single person under/over 65 and 13,500/12,186 for two people under/over 65 (and I believe half of them are under half of that). That's pretty bad. On 10K a year (the very top end of the poverty line), a 400/month dive leaves you just 433/month for everything else. Putting this just to food (ignoring clothes, transportation, etc.) leaves you with just 14/day for breakfast, lunch, and supper. I can't even imagine what the half of the poor that are half of this rate (about 5% of the population) do.

Personally I think a totally free system actually gives you a magnification of discrepancies. The rich become even more rich, and the poor slide further into poverty. The CIA factbook consumption by percentage share statistic (https://www.cia.gov/cia/publications/factbook/) for various countries really makes this obvious. For example, the US split of goods is 1.8/30.5% for the bottom/top 10% of the population, while the Canadian (a more protectionist and higher tax country) one is 2.8/23.8%. It is hard to see how the bottom 10% having 55% more leads to more slums.

Paul Johnson said...

I wonder at your assertion that protectionist high-taxation countries have more slums than non-protectionist low-taxation open trade countries do. Looking at say an unemployment map of Europe (I can't find one online, but their is one in the news paper) the first thing I notice is that France is the highest unemployment and Denmark the lowest, the more conservative countries are in the middle it seems.

Like the tendency for economists to support "conservative" economic agendas, this is a very broad generalisation with lots of counter-examples. For instance there was the Nordic model, which seemed to sustain high taxes and welfare together with a generally high national standard of living.

I actually had in mind the South American countries which embedded big entitlement programmes in their constitutions and subsequently saw giant slums grow around their cities. Also India up to around 1990 had its "license raj" in which you needed official permission to start manufacturing bicycles lest you put some other cycle manufacturer out of business, and firing an employee was basically impossible (at least legally). The result was the "Hindu rate of growth" which barely kept pace with the population. During the 90s the Indian government cut back taxes, entitlements and huge amounts of red tape in a big dereguation, which has finally freed the Indian economy to start growing at a decent rate.

Paul.

Paul Johnson said...

Personally I think a totally free system actually gives you a magnification of discrepancies. The rich become even more rich, and the poor slide further into poverty.

I agree. In fact although I can't point to any studies on the topic off hand, I think that having no social safety net at all is probably bad for the economy as a whole, because it discourages risk taking. Knowing you can lose assets is one thing, knowing that you could wind up on the streets is quite another.