Cab drivers have good days and bad days, depending on the weather or special events such as a convention. If they were rational, they would work hardest on the good days (to maximise their take) but give up early when fares are few and far between. In fact, they do the opposite. It seems they have a mental target for their desired daily income and they work long enough to reach it, even though that means working longer on slow days and going home early when fares are plentiful.
Human beings are not always logical. We treat windfall gains differently from our monthly salary. We value things that we already own more highly than equivalent things we could easily buy. Our responses to questions depends very much on how the issue is framed：we think surcharges on credit-card payments are unfair, but believe a discount for paying with cash is reasonable.
None of these foibles will be a surprise to, well, humans. But they are not allowed for in many macroeconomic models, which tend to assume people actually come from the planet Vulcan, all coolly maximising their utility at every stage. Over the past 30-40 years, in contrast, behavioural economists have explored the way that individuals actually make decisions, and have concluded that we are more Kirk than Spock.
In his new book “Misbehaving：The Making of Behavioural Economics”, Richard Thaler describes his struggles to persuade mainstream economists of all this. The results of behavioural research were at first dismissed as trivial, or the consequences of unrealistic laboratory experiments. It was argued that in the real world, ordinary people might not always think straight but that the professionals who make the big decisions would. Mr Thaler shows neatly, however, that the coaches and owners of professional American football teams, for instance, make consistent errors in the yearly “draft” to pick new players, placing far too much emphasis on their first choices.
Asking people how they actually behave has been seen as a bit lowbrow. As Mr Thaler writes：“To this day, the phrase ‘survey evidence’ is rarely heard in economic circles without the necessary adjective ‘mere’, which rhymes with sneer.” Milton Friedman, an economist, argued that a theory should not be judged on the realism of its assumptions, but rather on the accuracy of its predictions.
In a lovely passage, Mr Thaler recounts his attempts to explain the prevailing economic theory on savings to a room full of psychologists. “The psychologists remained stunned in disbelief,” he writes, “wondering how their economics-department colleagues could have such wacky views of human behaviour.”
Politicians, however, did take notice. The British government, for one, set up a behavioural-insights team to make policy more effective. It is now accepted that the way choices are offered does affect decisions, such as asking people to opt out of, rather than into, pension schemes or organ donation. The effect on take-up is substantial, which should not be the case if individuals were perfectly rational.
This “nudge” approach works elsewhere. Fixing parking tickets to car windows with bright orange stickers (rather than a piece of paper under the wind-screen-wiper) attracts the attention of passing cars and makes drivers less inclined to park illegally, because the risk of being caught seems higher. Writing to delinquent taxpayers and telling them that most fellow-citizens have paid up makes them more likely to cough up, too.
At the microeconomic level (the actions of firms and individuals), the behavioural school is now well-established. Mr Thaler is president of the American Economic Association this year and his successor, Robert Shiller, is another behaviouralist. But the school has struggled to make progress in the field of macroeconomics (the behaviour of the whole economy). Rather like the division between quantum physics and classic physics, it is not clear that it can be reconciled with mainstream theory. As Mr Thaler writes of behavioural theories, they “do not make easily falsifiable predictions and the data are relatively scarce.” It is hard to run lab-style experiments on whole economies：how can you have a control?
Surely, however, given the failure of most economists to predict the financial crisis, an attempt should be made to incorporate behavioural insights at the macro level. Mr Thaler has one suggestion：give people tax rebates in increments, rather than one-off payments, and they are more likely to spend them than save them. It is a modest start but, for bright young economists, this field is the way to go.
