by Deepak Gupta
"Behavioral economists are right to point to the limitations of human cognition. But if they have the same cognitive limitations as consumers, should they be designing systems of consumer protection?"
Is it just me, or is this a phenomenally dumb argument? There are so many faulty unstated assumptions here that it hardly seems worth cataloguing them. But perhaps Posner, who is anything but dumb, does not really mean this as a serious argument so much as a bald ad hominem. Just before the quoted passage, he singles out behavioral economist and fellow Chicagoan Richard Thaler and suggests that Thaler's past advocacy for all-stock investment portfolios disqualifies him -- and by extension, anyone who values research on actual consumer economic behavior -- from shaping rules to protect consumers in credit markets.
Thaler has now come back with a restrained and thoughtful response to Posner's jab. After pointing out how Posner's op-ed badly mischaracterizes the CFPA proposal itself, Thaler makes his case for regulation based on actual human behavior rather than false ideals of perfect rationality:
Posner does not stop at mischaracterizing the proposal. He launches a second line of attack based on the following logic. 1) Behavioral economists such as Thaler have endorsed this plan. 2) Thaler has been known to make mistakes. 3) Therefore, he should not be in the business of helping consumers avoid mistakes. Of all the evidence readily available that I am not perfect, he concentrates on the fact that I have written about the well-known puzzle in economics that the difference in returns between equities and bonds (the "equity premium") has, in the past, seemed to be too large. With the market now down, presumably he thinks this writing makes me look foolish. I plead guilty to joining the hundreds of other economists (most of whom are not behavioral economists) who have written about this historical puzzle. And, as Posner suggests, for many years I did advocate that young investors should consider putting all their money in stocks, and I followed that advice myself until 2000 when the level of the stock market bubble got so ridiculously high that I switched half of my retirement portfolio into treasury inflation-protected bonds (TIPS). But of course, I am not a perfect forecaster. I, like most people, did not get out of stocks last summer. And, I certainly plead guilty to being imperfect. For a long list of particulars, contact my wife.
But, given that I do not claim to be infallible, what does this have to do with whether we should try to help people make better choices? The premise of behavioral economics is that humans are not perfect decision-making machines. We are busy and distracted. We have fields that we know well, but are amateurs in most other domains. If our car breaks down, we go to a trained mechanic. Even the best mechanics will make some mistakes (they are human), but for most of us they still have a better chance of getting our cars to work than doing it ourselves. Even Judge Posner is human, and given the number of books he has written, he must have made a few mistakes in print. But our legal system needs judges, and one of the reasons we have a layered judicial system is so that mistakes by one judge can be corrected by others. Should we abolish our legal system because judges are known to make mistakes?
No government agency (or judge) will be error-free. The goal of the Nudge agenda sketched out in my co-authored book of that title was to create decision-making environments in which it is easier for error-prone human decision makers to choose well. The Agency proposed by the administration is a good example of this kind of thinking. Even imperfect experts can help us achieve better outcomes, just as imperfect judges can help us enforce the law fairly. Until we invent the perfect human (or computer decision-making devise), we have no good alternatives.
he receives all the rejection he requires. Cole Smithey ColeSmithey.com
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Posner quotes Shiller as "doubting" the CFPA would have prevented the housing bubble and the financial crisis, and jabs Thaler for nonetheless endorsing such an agency. Yet, Shiller too, while "doubting" such an Agency would have "prevented" the problems, still endorses the idea of such an Agency as it would "most likely have slowed some abusive practices ... That kind of regulatory intervention would have reduced the severity of the crisis, and that is no small thing. ... In short, the new agency seems a good idea. ..." (NY Times, 7/19/09, p. 2 Business Section)
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