Thursday, May 10, 2007

The Evolution of Economic Psychology

Paul Rubin echoes an argument popular in economics and business circles these days. Most people fail to appreciate the gains from trade and immigration because they are trapped by Neolithic analysis. They see outsiders as threats to the tribe. They view competition as a zero sum game and they over-estimate the importance of anecdotes. What they really need is a good dose of economics education.

There is a part of me which is inclined to agree. Certainly impetuous young freshman, eager to change the world, often transfer models of small group interaction to the national stage. They forget the costs of information. They are unaware of the wide dispersion in preferences. They consistently overestimate the effectiveness of deliberate social pressure. They are also vulnerable to the Neolithic traps Rubin describes.

In my experience, however, the average person is more immune to those types of errors. Such analytical errors are most prevalent in white space thinking; the kind that passionate intelligent college students revel in.

Most people, however, rely on experience. Indeed, experience is so important in the modern world precisely because instinct is so ill suited to it. But that is another post. Trade and illegal immigration are so hated in the decaying cities of the Rustbelt, in the ghost like mill towns of Carolina, and in the crammed exurbs of Southern California because their experience with it is so horrific.

Some Americans see that and think, “That could be me” but more see and think “but for the Grace of God that would be.” The difference is subtle but important. The first involves a mistaken estimation of probability, the second a sympathetic heart. Both might be born out our evolutionary past, but the later is no less relevant today.

The real question is why so many economists are so quick to dismiss such objections as ill formed. The first question shouldn’t be why is this person wrong, but how can I understand what they are really complaining about. Is it truly a misestimation of the dangers of trade, or is it a cost that we have failed to pick up? Is sympathy an important externality? Is fear of change a real largely uninsurable cost? Do social spillovers induce a particular and non-linear pain when children have to leave home to find a job elsewhere?

These are the questions we should be asking, but perhaps the psychology of economics isn’t as evolved as we like to think.

Hat tips: Mankiw and Caplan


Tom Church said...

The tendency you describe is what Charlie Munger calls Availability Mis-Weighing Tendency, and what Professor John Holland calls the Genetic Algorithm.

To Munger, one major source of cognitive bias is the tendency to increase the importance of factors that are available to you when making a decision or forming an opinion. If I'm evaluating a stock and it is easier to for me to calculate A than B, but B is a better measure of the stock's value than A, I'll probably just calculate A and go with that.

Holland's Genetic Algorithm (1975) is a handy way of introducing 'learning' over generations, where whatever factors worked in the past are duplicated again and then some relative to what didn't work.

The concept behind the Genetic Algorithm is what you should keep in mind: people will generally do what's worked for them in the past.

If, as you say, people in the Rustbelt see the effects of offshoring of manufacturing jobs, it's going to be very difficult to convince them that trade isn't 'bad.'

Anonymous said...

"These are the questions we should be asking, but perhaps the psychology of economics isn’t as evolved as we like to think."

Do you think neuroeconomics will be a major branch of economics in the future? And also, from your experience in Econ grad school, do you think more people are doing "levitt - style" economics and abandoning the traditional methods? It seems to me like the field is losing its rigour.

Garth said...

...awesome post Karl.