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Chapter 12

Chapter 12 of 'A Course in Behavioral Economics' discusses the role of behavioral economics in public policy, particularly during crises. It introduces the concept of libertarian paternalism and the nudge agenda, which aims to help individuals make better decisions without infringing on their autonomy. The chapter provides examples of nudges and interventions that can enhance welfare by aligning actual choices with rational preferences.

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6 views

Chapter 12

Chapter 12 of 'A Course in Behavioral Economics' discusses the role of behavioral economics in public policy, particularly during crises. It introduces the concept of libertarian paternalism and the nudge agenda, which aims to help individuals make better decisions without infringing on their autonomy. The chapter provides examples of nudges and interventions that can enhance welfare by aligning actual choices with rational preferences.

Uploaded by

Meva Nur Karabork
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We take content rights seriously. If you suspect this is your content, claim it here.
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Chapter 12-Behavioral

Welfare Economics
A Course in Behavioral Economics by Erik Angner
Instructor: Tolga Yuret
Motivation
• Rule: Rational when the times are good, behavioral in the crisis!

• David Brooks put it in the New York Times: “My sense is that this
financial crisis is going to amount to a coming-out party for behavioral
economists and others who are bringing sophisticated psychology to
the realm of public policy.”
Motivation
• Greenspan said: “I made a mistake in presuming that the self-
interests of organizations, specifically banks and others, were such as
that they were best capable of protecting their own shareholders and
their equity in the firms.”

• Krugman said: “[Economists] need to abandon the neat but wrong


solution of assuming that everyone is rational and markets work
perfectly. The vision that emerges as the profession rethinks its
foundations may not be all that clear; it certainly won’t be neat; but
we can hope that it will have the virtue of being at least partly right.
Solution
• Armed with a set of economic theories and a desire to influence
policy and improve lives, behavioral economists have developed a
doctrine variously referred to as libertarian, light/soft, or asymmetric
paternalism, and a series of policy proposals collectively referred to
as the nudge agenda
Standard Welfare Improvements
• Remove barriers to mutually beneficial interactions e.g. when free-
trade agreements permit coffee growers on one continent to sell their
beans to coffee drinkers on another.
• Ban harmful actions: which is why it is illegal to steal other people’s
property and to sell your children to the highest bidder
• Mandate beneficial actions: which is why some countries and states
require you to vaccinate your children against preventable diseases.
• More beneficial actions or fewer harmful ones. Thus, tax incentives
for environmentally friendly construction serve to encourage people
to build in a more environmentally responsible way.
Behavioral Welfare Improvements
• To the extent that people’s actual choices deviate in significant and
systematic ways from what they would have chosen if they had been fully
rational, informed, etc., it is at least in theory possible to improve people’s
choices in the sense of making their actual choices conform more closely to
the rational ones.

• On the assumption that people are made better off by whatever they
would choose if they were fully rational, etc., improving people’s choices in
this manner means making them better off.

• And they are better off by their own lights, that is, as defined by their own
rational and informed preferences. Making people better off in this manner
is, in a nutshell, the goal of libertarian paternalism and the nudge agenda.
Liberterian Paternalism
• Libertarian paternalism says that it is legitimate to help people make
better decisions themselves, by their own lights, if it is possible to do
so without interfering with their liberty or autonomy.

• The approach is described as “paternalistic” because it aims to make


people better off, but “libertarian” because it tries to make people
better off in a manner that respects their liberty and autonomy.
Nudge
• Interventions designed to have this effect are called nudges.
(i) It aims to help people make better decisions themselves, rather
than making decisions for them.
(ii) It imposes little to no cost on those who are exposed to it.
(iii) It has little to no effect on the choices of those who are already
rational and well-informed.
(iv) The effect on the choices of those who are not already rational and
well-informed is potentially beneficial for them, by their own lights.
Nudge
The do-not-enter sign in Figure 12.2(a) represents a ban. The congestion-charging-zone
sign in Figure 12.2(b) represents a disincentive. By contrast, the right-turn-ahead sign in
Figure 12.2(c) represents a nudge. The sign does not say that it is illegal to drive
straight ahead; nor does it say that there is a charge associated with doing so.
Nudge
• The right-turn-ahead sign works differently from the other two.
(i) The sign aims to help people make better driving decisions themselves, rather than
making decisions for them.
(ii) The sign imposes no cost on people exposed to it beyond the trivial amount of time it
takes for experienced drivers to scan it as part of the environment, and this is true whether
they intend to stay on the road or not.
(iii) The sign has no effect on the decisions of drivers who are rational and informed: with
or without the sign, a rational, informed driver who intends to stay on the road would bear
right at the curve, and a rational, informed driver who intends to drive straight ahead and
off the cliff would do that.
(iv) The sign can, however, have an asymmetric and potentially large beneficial effect (by
their own lights) on drivers who are irrational or ignorant of the upcoming turn. To the
extent that the sign changes the behavior of drivers it is because it “nudges” them into
adjusting the speed and turning the wheel as appropriate.
Nudge
• Behavioral welfare economists have proposed a number of specific
interventions that they believe are welfare-enhancing
• Default options are options that will be selected in case the decision-
maker fails to make an active choice. Insofar as people are prone to status
quo bias, they will exhibit a tendency to stick with the default even when it
would be virtually costless to make an active decision.
• The Save More Tomorrow (SMarT) Program encourages workers to save
more for retirement by giving them the option of committing in advance to
allocating a portion of their future raises toward savings.
• Cooling-off periods are periods of time following a decision during which
decision-makers have the option to reverse their choices.
Nudge
• Harvard Law professor Cass R. Sunstein, one of the names most
strongly associated with the nudge agenda, writes:

• In the context of retirement planning, automatic enrollment has


proved exceedingly effective in promoting and increasing savings. In
the context of consumer behavior, disclosure requirements and
default rules have protected consumers against serious economic
harm, saving many millions of dollars. Simplification of financial aid
forms can have the same beneficial effect …
Example 12.4
Google is now:

(1) putting candy in opaque bins rather than clear dispensers


(2) placing salad in full view to people entering the cafeteria and
dessert much further down;
(3) encouraging people to use smaller plates by pointing out that
people with bigger plates tend to eat more;
(4) color-coding foods in accordance with how healthy they are
Recommended Kahneman Chapters
• 10,11
• 15,17
• 23,24
• 25,26
• 27,30
• 33,34

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