Looking into Homo Economicus - Psychology in Economic

ResearchYe-Rong Du

Experimental Economics LaboratoryAI-ECON Research CenterDepartment of Economics

National Chengchi University

2008/12/4 1歐陽勛系列講座

References

• Earl, P. E. (2005) Economics and psychology in the twenty-first century, Cambridge Journal of Economics, 29, 909-926.

• Earl, P. E. (1990)Economics and psychology: A survey, Economic Journal, 100, 718-755.

• Della Vigna, S. (2008) Psychology and Economics: Evidence from the field, Journal of Economic Literature, forthcoming.

Peter E. EarlStefano Della Vigna

2008/12/4 2歐陽勛系列講座

outline

• Economics and Psychology: development and relationship

• Bounded Rationality: barriers to optimization• Motivation and Human action• Psychology in economics research• Concluding remarks

2008/12/4 3歐陽勛系列講座

Indicators of rosy future?

• 2 Laureate: Herbert Simon (in 1978) and Daniel Kahneman (in 1992). Both work at the interface between the two fields.

• Interest in psychological aspects of choice since Adam Smith.

• The publication of survey articles and collections of reprints of significant articles.

2008/12/4 4歐陽勛系列講座

Indicators of rosy future?

• A well-established academic group: IAREP• An academic journal: Journal of Economic

Psychology since 1981.• The economic journal that welcome papers

with psychological underpinnings: The Journal of Economic Behavior Organization and The Journal of Socio-Economics.

2008/12/4 5歐陽勛系列講座

Partnership or Imperialism?• Economic psychology

– Gary Becker– Topics: psychology. Ex: suicide, addiction– Approaches: economics. Ex: Constrained optimization

or game theory.

• Psychological economics– Topic: economics. – Approaches: psychology.

2008/12/4 6歐陽勛系列講座

Gary Becker• 假設個人會追求效用的極大化

(maximize utility) ，而偏好在任一時點除了與消費的財貨與勞務相關聯外，也深受過去經驗 (past experience) 和社會力量 (social force) 的影響。

• 「擴展此一效用極大化方法以包括內生偏好，能夠極為成功地整合相當廣泛的行為分析。我不認為有任何其他替代的方法，不論是根據『文化的』、『生物的』或者『心理的』力量，可以提供相對等的洞察力與解釋能力。」

2008/12/4 7歐陽勛系列講座

Lewis Petrinovich (1979)

Modified version of Brunswik’s (1952) lens model

uncertainty

stimulus responseMental process

2008/12/4 8歐陽勛系列講座

Barriers to optimization

• Uncertainty and risk: what do people perceive?

• Problem of infinite regress– Duhem-Quine problem– Optimization under uncertainty?

2008/12/4 9歐陽勛系列講座

Barriers to optimization

• Research on cognitive processes complements this logical argument for portraying choice not as involving optimization but, rather, as a 'satisfying' activity involving the setting of aspirational targets and use of simple procedures for forming judgements (Simon, I959).

2008/12/4 10歐陽勛系列講座

Barriers to optimization

• Why simple?• Psychological limitation:

– Miller (1956), 5-9 bits per second– Attention: routine situational reviews and

problems have arisen.

2008/12/4 11歐陽勛系列講座

Anomalies

• Psychologists and psychologically-oriented economists have discovered that decision-makers behave in ways that systematically violate the Von Neumann/Morgenestern axioms of rationality.

2008/12/4 12歐陽勛系列講座

Anomalies

• Reference point effect• Sunk cost effect• Endowment effect• Framing effects• Availability bias• Representativeness bias• Opportunity cost effect• Certainty effect

2008/12/4 13歐陽勛系列講座

Reactions• Psychology

– Kahneman and Tversky: Prospect Theory

• Economics– Preferences– Beliefs– Decision making

2008/12/4 14歐陽勛系列講座

Standard consumer behavior

( | ), iU x s

p(S)

max ( ) ( )t t

t

t o s S

prob U

x

y

s.t.

x(p,m)

Q

p

2008/12/4 15歐陽勛系列講座

Standard consumer behavior In the theory of consumer we will derive

demand functions by considering a model of utility-maximizing behavior coupled with a description of underlying economic constraints. (Hal R. Varian, Microeconomic Analysis)

However, besides price and quantity of demand, all other things are basically unobservable (just in the past).

Economists build up lots of assumptions and axioms for this black box.

2008/12/4 16歐陽勛系列講座

Non-standard Preference

),|( srxU i

)|,( sxxU ii

),|( rxU i

, 1 , 1 t t t n t n

)(max U

2008/12/4 17歐陽勛系列講座

Non-standard time preference

• Psychology: Self Control Problems• Reality: discounting is steeper in the

immediate future than in the further future.

• Laboratory evidence: – ＄ 15 now ～ ＄ 20 in one month (345%

annual discount rate)– ＄ 15 now ～ ＄ 100 in ten years (19% annual

discount rate)2008/12/4 18歐陽勛系列講座

Non-standard time preference

• Field evidence: Homework and Deadlines, Credit Card Take-up, Life-Cycle Savings, Default Effects in 401(k)s, Welfare etc.

• Neural evidence: McClure et al. 2004 Separate Neural Systems Value Immediate and Delayed Monetary Rewards. Science, 306.

2008/12/4 19歐陽勛系列講座

Non-standard time preference

• Model: Laibson (1997) hyperbolic preferences2 3

1 2 3

0

t t t t t

t

U u u u u

u

2008/12/4 20歐陽勛系列講座

Social preference• Laboratory evidence

– Dictator game– Gift Exchange game

{0,5,10,...}w [.1,1]e firm : (126 )

worker : 26 ( )

w e

w c e

2008/12/4 21歐陽勛系列講座

Social preference• Model: Charness and Rabin (2002)

• x1 refers to own payoff while x2 refers to other-player’s payoff.

• They assume ρ > σ, which means player 1 cares more about player 2 when he is better than player 2.

2 1 1 21 1 2

2 1 1 2

(1 ) when ( , )

(1 ) when

x x x xU x x

x x x x

2008/12/4 22歐陽勛系列講座

Non-standard Beliefs

)(sp

tt Ss

t Usp )()(max

2008/12/4 23歐陽勛系列講座

Non-standard Decision Making

max ( ) ( )t t

t

t o s S

prob U

p(S)

rxU i ),|(

p(S)

rxU i ),|(

p(S)

rxU i ),|(

p(S)

rxU i ),|(

,t s

),( mpx

x

y

s.t.

x

y

2008/12/4 24歐陽勛系列講座

Non-standard Decision Making

Feasible

FeasibleLimited attention Menu Effects/

heuristics

Persuasion/Social pressure

Emotion

2008/12/4 25歐陽勛系列講座

Non-standard Decision Making

Limited attention, menu effects, persuasion/ social pressure and emotion are similar in that the resulting behaviors deviate from global optimal choices even given the standard utility and belief.

The next question is, do we really need preferences /utility or maximum principle to make decisions?

2008/12/4 26歐陽勛系列講座

Motivation and Human Action

• Satisfaction is purely a function of how well things match up to expectations. (Instead of utility maximization or the plethora of theories of motivation proposed by psychology)

• Subsequent verdicts on choices will depend on how expectations are revised in the light of personal experience and social interaction.

2008/12/4 歐陽勛系列講座 27

Personal construct theory

• Kelly (1955)• He argued that instead of seeing human action as

“motivated” by, say, sex-drives or imprinted tendencies, it may be useful to see people as if they are intent on trying to predict and control events.

• PCT sees people as forming ‘templets’ in their minds and then testing to see how they fit reality.

2008/12/4 28歐陽勛系列講座

Personal construct theory• Explanations• Consumer behavior: it seems appropriate to

construe the things people buy as if they are means to the ends of prediction and control.

• Emotions: For example, all of potential choices may provoke anxiety, in the sense that the decision-makers feel an awareness that the choices are likely to involve events that they are poorly able to predict and control.

2008/12/4 29歐陽勛系列講座

Cognitive dissonance theory

Festinger (1957) He saw dissonance as a motivating factor in its

own right. The existence of dissonance will motivate the person

to try to reduce the dissonance. In addition, the person will actively avoid situations

and information which would likely increase the dissonance.

2008/12/4 30歐陽勛系列講座

Psychology in Economics

• The Psychology of the firm• Welfare and public sector economics• Psychological foundations of macroeconomics

2008/12/4 31歐陽勛系列講座

The psychology of the firm

• Entrepreneurship• Motivation in the workplace• Learning and corporate productivity

2008/12/4 歐陽勛系列講座 32

Psychological foundations of macroeconomics

• The determination of aggregate demand• Taxation and the incentive to work• Unemployment• Balance of payments problem• The pace of economic growth

2008/12/4 歐陽勛系列講座 33

Concluding remarks

「一切經濟現象只有就各個行為人的選擇與計劃來分析。除此以外，再也無法做正確的解釋。」

夏道平《經濟學的最後基礎》譯序

2008/12/4 歐陽勛系列講座 34

Entrepreneurship

• Entrepreneurs have unusual personality. They feel they have something to prove!

• McClelland (1961)– He hypothesized that a personality variable which

he called n Ach (‘need for achievement’, which he defined as ‘the desire to do something better, faster, more efficiently, with less effort) is an essential component of a successful entrepreneurial personality.

2008/12/4 歐陽勛系列講座 35

Welfare and Public Economics

• The exploitation and protection of consumers• Cost benefit analysis• Fiscal psychology

2008/12/4 歐陽勛系列講座 36

The determination of aggregate demand

• Investment:– Keynes– “animal spirits” in the determination of aggregate

investment– Use of simple decision rules as devices whereby

choosers attempt to delude themselves into believing they know something about how the future will be.

2008/12/4 歐陽勛系列講座 37

The pace of economic growth

• Personality effect– McClelland hypothesized that n Ach varies across

culture, so it cause different pace of economic growth between societies.

– But it is criticized by Lea et al., 1987; Gilleard, 1989.

2008/12/4 歐陽勛系列講座 38

The pace of economic growth

• Intelligence effect– Lynn and Vanhanen (2002) and Lynn (2006)

provided rich resources on the comparative studies of IQ among different countries and races, and indicated that IQ’s significance can even come to the social or country level. The significant contribution of IQ to economic growth has been further confirmed in other studies (Weede and Kampf 2002, Jones and Schneider 2006, Ram 2007).

2008/12/4 歐陽勛系列講座 39

Lynn R, Vanhanen T (2002) IQ and the Wealth of Nations, Praeger.