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misbehaving making of behavioral economics

Written by Muhammad Danish Raza 8:24 pm Book Reviews, Published Content

Misbehaving: The Making of Behavioral Economics

Known as one of the founding fathers of behavioral economics, Richard H. Thaler’s book, “Misbehaving: The Making of Behavioral Economics,” is a compendious study of the intersection of psychology and economics. It clearly demonstrates how human errors and thought processes drive market behavior.
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Mr Muhammad Danish Raza is a final-year student of economics at the National Defence University, Islamabad.

Introduction

The foundation of political economy and all the social sciences, in general, is based on psychology. A general perception had been there among classical social scientists that a day would come when the laws of social sciences would be primarily derived from psychological principles. “Misbehaving: The Making of Behavioral Economics” by Richard H. Thaler lays utter stress on the role of psychological factors and biases behind the process of human decision-making.

This book is really about the way people actually behave as opposed to the way economists think that people behave being highly rational beings in economic models. The author argues that the people he studies are humans and are closer to Homer Simpsons than Spock. They do not always make correct choices and hence this book emphasizes bringing the psychological factors into light that force humans to misbehave at different points in time.

Author

Mr. Richard H. Thaler is a well-known professor of economics at the Booth School of Business at the University of Chicago. He was awarded with the Noble Price in 2017 for his contributions to the field of behavioral economics. His work was acknowledged by the Royal Swedish Academy of Sciences with due regard that it served as a bridge between psychological and economic analysis of individuals’ decision-making processes.

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Moreover, he was the president of the American Economic Association in 2015. Theoretical and empirical depth in his work has had instrumental benefactions to behavioral economics over the past few years. He concluded his thesis on the topic “The Value of Saving a Life: A Market Estimate” which was published in 1974 by the University of Rochester’s Economics Department.

Summary

In the initial pages of “Misbehaving: The Making of Behavioral Economics”, Richard Thaler makes a significant point that there is a substantial problem with the economic models being utilized by economists. These models replace homo sapiens with the pure rational creature whom he calls homo economicus which are fictional characters in a true sense.

The fictional characters to whom the economists have been referring in their models for years, represent humans as rational creatures. It reflects that in any given situation, humans will always choose the best optimal outcomes for themselves. This pre-made point of view about humans’ rational behavior is a notable flaw in economic models. Furthermore, Thaler states that the learning process takes practice.

The majority of Thaler’s work is refuting the traditional economic beliefs about humans. One of the then economic thoughts regarding decision-making argues that buying a new car or a new house is an irregular event that involves high stakes. Therefore, one will get it right because of the high-risk factor. However, psychology teaches the opposite way that as the stakes go up, the decision-making quality goes down because learning takes practice.

Thaler also comments that the more people look at their portfolios, the less the likelihood that they will be able to take on the risks. It is because when someone observes oneself more often, he/she may find more negative areas to ponder about his/her abilities to take on the odds which will present more losses regarding the future in front of that particular person. In this way, these discouraging thoughts impede one from marching on towards practical steps.

Analysis

“Misbehaving: The Making of Behavioral Economics” brings into light many dormant aspects regarding the natural way of human decision-making. It nudges economists and policymakers to take into account realistic facts while carrying out their research and policy formulation tasks.

It quotes interesting instances including the comparison between traditional beliefs and modern psychological teachings of decision-making and human behaviors. It not only equips the readers with historical knowledge regarding old economic thoughts, but it can also make the readers learn to diversify their thinking patterns.

Critical Remarks

While it talks about taking into account realistic facts than assumptions, the realistic facts vary and are different at one location from the other. Therefore, will there be separate economic models based on realistic facts for different parts of the world? More importantly, how can the economic models be generalized without having assumptions like rationality?

How can abstract traits such as the level of utility and rationalization be measured in order to formulate economic models based on exact realistic facts? Is it possible in this highly globalized world to have different economic models based upon differences in realistic facts for similar variables? Is it not more suitable to have generalized forms of economic models given the fact that generalized forms of various complex models are easy to perceive and translate?

These are some of the concerns that behavioral economics will have to deal with in order to prove itself as an essential aspect of modern-day economics.

Conclusion

To summarize this entire discussion, “Misbehaving: The Making of Behavioral Economics” will have an instrumental effect on the thinking style of modern economists. If behavioral economics succeeds in prolonging itself as a significant and undeniable field of study and research in economics, it may serve as a bridge to shift assumption-based economic models closer to realistic grounds. Consequently, owing to the psychological factors, it will also make economic research efficient enough to justify real-life decision-making processes and economic activities.


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The views and opinions expressed in this article/paper are the author’s own and do not necessarily reflect the editorial position of Paradigm Shift.

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