Pursuit of Truthiness

my gut tells me I know economics

Archive for January 2010

Who needs rationality?

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It seems that irrationality is everywhere.  Economics long assumed that people are perfectly rational, but now behavioral economics is the hottest sub-field and Daniel Kahneman got a Nobel prize for showing how people make biased decisions.  Even so, there is no shortage of criticism of the remaining reliance on rationality in economic models.  Books like Nudge: Improving Decisions About Health, Wealth, and Happiness and Predictably Irrational: The Hidden Forces That Shape Our Decisions become bestsellers.  A smart, earnest community of people who want to become more rational has grown up around websites like Less Wrong and Overcoming Bias.

In the face of all this, Fast and Frugal: The Tools of Bounded Rationality (a part of this book) argues that people are actually excellent decision-makers.  The author concedes that people rarely act as perfect Bayesians who do constrained optimization of their utility function.  However, he claims that the heuristics that ordinary people use actually perform very well in most environments.  These heuristics work more quickly and with less information than the corresponding “rational” method.  The paper includes criticisms of many of the studies showing people are  biased, as well as other studies showing examples of heuristics with good predictive power.

Some questions stand out to me:

1.  To what extent are markets an environment in which these heuristics perform well?  As we find out what heuristics people actually use, economists can build models based on them; to some extent this is being done already with the general idea of “bounded rationality”.  If some markets are not a friendly environment for these heuristics, how can public regulation or entrepreneurial information-providers improve them?

2.  What are the arbitrage opportunities?  The investment funds of behavioral economists have not been especially successful as far as I know, but perhaps the fund that really figures out how people apply a heuristic will be, or perhaps there is another market where this would work.  Of course, casinos and credit card companies seem to have done this already.

3.  In some situations (in markets or otherwise) there are returns to cognitive diversity.  People with less common heuristics or who are proper rationalists may succeed because they are doing something different rather than because their strategy is strictly dominating per se.  Of course, the reverse may also be true in other situations and heuristics could pull everyone to a bad equilibrium.

4.  Heuristics may work well for people in most environments, but our environments are becoming increasing different from those we evolved to succeed in.  More and more decision-makers are not human, and the question of how to program them is a very different one from the question of how humans should think.

HT: This Less Wrong post, it is good that they consider arguments which seem to undermine much of their project.  Of course, for all the people working on AI the computer exception is a major one.

I realize my writing style is trying to imitate Tyler Cowen‘s.  This attempt is mostly unconscious and is doomed to failure as I can never be so succinct.

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Written by James Bailey

January 26, 2010 at 2:09 pm

A Simple Theory of Dick Cheney

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It is at least a year too late for people to really care about Cheney analysis, but when I think up something that seems obvious but hasn’t been said before there is only one thing to do.

There are lots of simple theories that people throw out for the actions of their opponents.  Some popular postulates are crazy, stupid, evil, corrupt, misguided, or power hungry.  Evil and power-hungry were probably the top Cheney explanations; think of Jon Stewart’s portrayal of Cheney as Darth Vader.

“Misguided” is an easy word to use, but the process by which people become misguided is important and presumably complicated.  How did Anakin Skywalker turn into Darth Vader?  It took several films for Darth to become “misguided”.

Cheney’s story is indeed long and complicated, though it is also interesting and important.  It is told well by Barton Gellman in Angler: The Cheney Vice Presidency.  (Professor Buckley recommended the book, saying “read it in a well-lit room with your back to a wall, it is quite frightening”).

The short version, however, is indeed short.  Cheney didn’t have to be evil, corrupt or power-hungry to do the things he did.  All he had to be was the one thing his critics rarely called him: stupid.  Not even really stupid, just possessing one faulty logic circuit.

Cheney always talked about the “threat”.  He took pride in being the one who was always thinking about America’s enemies and how to stop them.  And in a zero-sum world, an obsession with thwarting the efforts of enemies might even be healthy.  But of course we are not in a zero-sum world, and “how can we make things worse for America’s enemies” is not the same question as “how can we make America better off”.  And the latter is the question the vice-president should always be thinking about.

But can we really have common interests with our enemies?  Is foreign policy really a non-zero-sum game?  In the Cold War it certainly was.  A major nuclear war would be very bad for the Soviets but also bad for us.  Similarly, the Iraq war and the torture policy were bad news to some of America’s enemies (Saddam’s regime and any terrorists we capture) but were probably also bad for us, given the expense in lives and money of the first and the reputation hit and enemy radicalization of the second.

I suppose the real lesson here is that politicians should have to study economics and listen to economists, to whom game theory, non-zero-sum thinking, and marginal (rather than black-and-white, all-or-nothing) thinking are second nature.  It should be now surprise that it was an economist (Petraeus) who turned things around in Iraq by finding common ground with some former enemies (non-zero-sum thinking applied to Sunni tribal militias) and using incentives to change behavior.  I know everyone thinks their own field is more important than it is in reality (that’s why they choose it, right?) but it seems like economists are more rational in some important ways, and they are probably the best group we’ve got until professional rationalists come into their own.

Written by James Bailey

January 12, 2010 at 3:41 pm