There's a lot of buzz about behavioural economics these days, and Rotman School of Management has held several talks about the topic and has published
Nudging: A Practical Guide.
Using Behavioural Economics to Inform Social Policy was the title of the most recent Rotman talk by Adam Oliver of the London School of Economics. Oliver has moved from his initial enthusiasm for these methodologies to harbouring significant reservations. But more about that later. First a summary of the principles of behavioural economics.
Oliver started with a very clear exposition. Put simply, he says, mainstream classical, economics, assumes that humans behave rationally to maximize their economic gain. Behavioural economists believe the contrary, that humans behave irrationally based on a reflexive instantaneous reaction and not in their best long term interest.
Behavioural economists use their knowledge of human behaviour to design a choice architecture that will enough people to make choices in their own best interest. Thaler and Sunstein, authors of
Nudge (reviewed
here), call this Liberal Paternalism.
Some key behaviours that lead people to act against their own best interests:
Loss Aversion If people lose a certain amount, that causes about twice as much pain as they feel pleasure from a gain of that same amount.
Present Bias People prefer prefer present pleasure to even greater pleasure in the future.
Probability Weighting People have difficulty with probabilities. They tend to overweight events that have very low probability (think of lotteries) and underweight events that have high probability.
Optimism People are more optimistic than justified about the future.
Oliver then went on to describe some of the main techniques that practitioners employ to influence people based on the tenets of behavioural economics:
Change the default Requiring people to opt in to organ donation results in a take-up percentage of about 10-20%; flipping the default so that people have to do something actively to opt out results in organ donation of 80-95%. Companies that require employees to opt in to a retirement savings see a much lower participation rate than those who change the default so that people have to take explicit action to opt out.
Manipulation of Reference Point The most effective way to motivate people to save energy has been to inform them of the lowest energy usage of their neighbours. That changes their reference point for how much energy they should be using.
Application of Incentives While the use of financial incentives is part of classical economics, behavioural economists use non-financial incentives to trigger desired behaviour. A good example of this was the practice of children in Iceland signing contracts around better eating, following which child obesity rates fell.
So, on to the serious efforts to apply these principles in national policy formation. Prime Minister Cameron was the first to embrace these ideas. He required all his MPs to read Nudge and set up the
Behavioural Insights Team, popularly dubbed The Nudge unit, which 'applies insights from academic research in behavioural economics and psychology to public policy and services'.
Subsequently, Sunstein joined the Obama administration in the Office of Information and Regulatory Affairs, with a mandate to base policy on evidence, not intuitions. In his talk at Rotman, Sunstein claims billions of dollars of savings through following the behavioural economics principles and the office's nudging people toward good choices by making those choices automatic, simple, intuitive and meaningful, with a huge emphasis on the value of simplicity.
An
article this summer in The Globe and Mail reported that Canada is also weighing the possibility of employing this approach.
Oliver described his reservations about the application of behavioural economics principles in public policy. While it's clear using these tools can advance good policies, Oliver is concerned that some of these experiments have not been vetted to ensure that they actually produce sustained results. Most of all, Oliver worries that the interventions based on behavioural economics require subtle, covert decisions when government should always be transparent and open. The examples quoted in publications invariably focus on indisputably beneficial interventions, but of course these interventions could also be put to less noble objectives. For instance, corporations have known about manipulating default options. Canadians are aware of the power of the negative option. A major Canadian telecoms company, Rogers, is still remembered for its introduction of a
negative option billing plan - back in 1995! Although it was withdrawn after a public outcry, the company retains association with this ugly tactic.
As academics and politicians continue to explore the possibilities behind behavioural economics, it's healthy to question its efficacy and appropriateness.
