Classical economists have relied on the model of physics to reach predictability, which led them to depict a “rational economic man.” Contemporary studies reveal a very different picture of our economic behavior.
|This post belongs to a reading series of Doughnut Economics by Kate Raworth. For quick access to all chapters, please click here. On smartphones, share links are at the bottom of the screen.|
Disclaimer: This chapter summary is personal work and an invitation to read the book itself for a detailed view of all the author’s ideas.
The Story of Our Self-Portrait
Early in their search for rationality, classical economists have opted to reduce their quite versatile subject matter—man—to a predictable entity. A series of harsh simplifications were to be made. This is why Stuart Mill wrote: “[Political economy] does not treat the whole of man’s nature as modified by the social state, nor of the whole conduct of man in society. It is concerned with him solely as a being who desires to possess wealth, and who is capable of judging the comparative efficacy of means for obtaining that end.”1 But is there anything real to “Homo Economicus,” as Mill’s critics dubbed his theoretical creation? Answering this question requires retracing the whole story of our economic self-portrait.
Adam Smith, often referred to as the “Father of economics”, famously said in his 1776 book The Wealth of Nations that “It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.”2 Trade, therefore, was deemed by Adam Smith to be entirely rational. Although he saw self-interest as being “of all virtues that which is most helpful to the individual,” he nevertheless added that our “humanity, justice, generosity and public spirit… (are) the qualities most useful to others”. As a result of this balance in the human psyche between unassailable moral values and self-interested calculations, political economics was to be considered a mere art. At the difference of what appeared as real science, it did not evolve in a thoroughly measurable field.
John Stuart Mill cut this Gordian knot by taking a methodological stand, clearly stating that his depiction of man was “an arbitrary definition,” based on “premises which might be totally without foundation,” and that political economy was, thus, “only true… in the abstract”. Besides, John Stuart Mill was convinced that no “political economist was ever so absurd as to suppose that mankind are really thus constituted” since the reduction of reality to some conceptual construct is “the mode in which science must necessarily proceed.”3 To enhance Homo Economicus predictability and ensure a unified model of individual economic behavior, he added to his character two features: a deep dislike of work and a love of luxuries. Why not, after all? Further down the road, other economists would endow Homo Economicus with more arbitrary but rationally convenient traits.
In the meantime, considering that the mathematical description of reality can only be reality itself, William Stanley Jevons defended in A General Mathematical Theory of Political Economy (1862) the idea that economic activity could be reduced to what he called the “single average individual, the unit of which population is made up.” Like Newton’s atom and under the assumption that all reality can be reduced to the sum of its quantitative parts, including with human exchanges, Homo Economicus became real. The essential difference between truth and validity—that John Stuart Mill, for his part, had duly pointed out—as well as the necessity to evaluate each specific methodology according to its field of research, were simply glossed over.
More respectful of methodological distinctions but still willing to complete the Homo Economicus template, “Chicago-school economist Frank Knight decided to endow economic man with two godlike traits—perfect knowledge and perfect foresight—enabling him to compare all goods and prices across all time,” says Kate Raworth. The creator himself of this godlike character was perfectly aware that it was a total fabrication, resulting in a creature that “treats other human beings as if they were slot machines.”4 But to him, as to John Stuart Mill in his own time, this forceful reduction of humanity to an unlikely caricature was the only way to unleash the full potential of mathematical modeling.
Except for William Stanley Jevons, other schools of thought in economics had maintained the essential distinction between a model’s validity and how mankind operates in real life. Milton Friedman and his pals from the Mont Pelerin Society recused it by postulating that economics could ignore the inner limits of mathematical modeling. Their rationale was that “since in real life people behaved ‘as if’ they were making the self-interested, all-knowing calculations ascribed to rational economic man, then the simplified assumptions—and the cartoon character they depicted—were legitimate.”5 (Id. pp. 85-86) Said otherwise, the reasoning was that since Homo Economicus sums up what rational behavior is supposed to be, actual people implicitly behave along the exact same line, only less neatly.6 Welcome to neoliberalism brave new world!
This is how classical economics went from arbitrarily assuming that what cannot be readily measured according to the law of physics cannot have economic significance,7 to the downright absurdity that the model is the whole of economic reality. The irony cannot be missed, in this respect, that the last stage of the Homo Economicus caricature—neoliberalism—is built upon the same type of methodological blindspot the communist ideology is. Even though neoliberalism historically set itself to counter communism, both fall for the seduction of a single concept encapsulating the whole of economic life. To Karl Marx and Friedrich Engels, it was “Dialectic Materialism,” i.e., the unfolding of history through opposing class ownership of the means of production. To neoliberals, Homo Economicus is the overarching concept and the last word about human exchanges. Hence their clamored certitude that “do the math” sums up the validity of economic reasoning. The other common trait of both ideologies is, obviously, a crass ignorance of how science effectively builds itself up, as well as of observation indispensable role. Karl Marx had at least the excuse to live in the nineteenth century.
The Twenty-First-Century Portrait
Field studies show that real people behave very differently than how the oversimplified and methodologically impaired Homo Economicus model implies. “First, rather than narrowly self-interested, we are social and reciprocating. Second, in place of fixed preferences, we have fluid values. Third, instead of isolated, we are interdependent. Fourth, rather than calculate, we usually approximate. And fifth, far from having dominion over nature, we are deeply embedded in the web of life.” The author invites us to examine each of these characteristics.
From self-interested to socially reciprocating
People typically practice what is known as “strong reciprocity”. According to economists Sam Bowles and Herb Gintis,8 we are conditional cooperators (tending to cooperate so long as others do too) but also altruistic punishers (ready to punish defectors and free-riders even if it costs us personally). “No wonder, adds Kate Raworth, rating and review systems are so popular in the otherwise anonymous online marketplace. From eBay to Etsy, they turn each participant’s track record into their trading reputation, revealing who can be trusted, so allowing conditional cooperators to find each other and thrive even in the presence of free riders.”9
From fixed preferences to fluid values
The Homo Economicus theory portrays people as sovereign consumers independently setting their buying preferences. Accordingly, companies are supposed to merely have to deliver the matching products and services. “Under this set-up, any changes in people’s shopping habits must largely be due to new product information, a shift in relative prices, or a change in their incomes, says Kate Raworth.” Which, as one knows by reflecting five seconds on their personal experience, is highly delusional.
“Since the 1980s the social psychologist Shalom Schwartz10 and colleagues have surveyed people of all ages and backgrounds in over 80 countries, identifying ten clusters of basic personal values that are recognised across cultures: self-direction, stimulation, hedonism, achievement, power, security, conformity, tradition, benevolence and universalism.” (Ibid. p. 92). Three main lessons can be driven from these surveys:
- “. . . the relative strength of these different values changes in us not just over the course of a lifetime, but in fact many times in a day, as we switch between social roles and contexts, whether moving from the workplace to the social space, the kitchen table to the conference table, from the commons to the market to the home. And—just like muscles—the more often any one value is engaged, the stronger it becomes.”
- “Schwartz further found that the ten basic values can be grouped around two key axes, as illustrated in his circumplex. The first axis juxtaposes openness to change (which concerns independence and novelty) with conservation (concerning self-restriction and resistance to change). The second axis juxtaposes self-enhancement (focused on status and personal success) with self-transcendence (having concern for the wellness of all). That divide between self-enhancement and self-transcendence is echoed in the contrast between extrinsic motivation—which moves us to act in order to achieve a further outcome, such as gaining status, money or some other benefit—and intrinsic motivation, which moves us to do something because it is inherently engaging or satisfying.”11
- “What’s more, the ten values tend to influence one another in push–pull ways across these axes. Engaging one value, such as stimulation, tends to activate its neighbours, hedonism and self-direction, while simultaneously suppressing its opposites, security, conformity and tradition.”12
From isolated to interdependent
Not only do we have fluid values, but we also follow social norms. We typically prefer to do what we expect others will do, even more so when filled with fear or doubt. Moreover, thanks to the development of IT and social media, we are more aware than ever before of other people’s opinions, decisions, and choices. So, while economists have traditionally sought to change people’s behavior by changing the relative price of things, “such price signals often fail to achieve their expected results. . . . because they can be drowned out by far stronger network effects, thanks to social norms and expectations of what others in the network are doing.”13 (Ibid. p. 95)
From calculating to approximating
“Homo sapiens clearly can’t match the infallibility of rational economic man,” says Kate Raworth. Human beings display a whole array of “cognitive bias” that systematically cause them to deviate from an ideal model of rationality. We tend, for instance, to make decisions based on the more recent and accessible information; or to avoid a loss rather than making an equivalent gain; or to underestimate the likelihood of extreme events, while overestimating our ability to cope with them. There are many more of such widely share cognitive bias, making the difference between us and rational economic man plain to see.”
Does it mean that human beings are inherently incompetent? On the contrary, argues the evolutionary psychologist Gerd Gigerenzer: we have survived and thrived not despite our cognitive biases but because of them. Kate Raworth goes on to add, “These so-called biases are the underpinnings of our heuristics, the unconscious mental shortcuts we take every time we use a ‘rule of thumb’ to make decisions. Over millennia, the human brain has evolved to rely on quick decision-making tools in a fast-moving and uncertain world, and in many contexts those heuristics lead us to make better decisions than exact calculations would do.”
One remaining problem, however, is that our heuristic decision tools cannot properly handle situations where potentially devastating effects tend at first to be invisible, delayed, gradual, and distant. Climate change deniers have flourished on that. Aside from a personal investment in education and rational thinking, the recourse to “nudge policies” might be needed in such instances. This is defined by Richard Thaler and Cass Sunstein as “any aspect of the choice architecture that alters people’s behaviour in a predictable way without forbidding any options or significantly changing their economic incentives.” Think of displaying fruits at eye level in a school canteen for kids to eat healthily, for instance.
From dominant to dependent
“We are embedded in the living world, not separate from or above it: we live within the biosphere, not on the planet. . . . This shift in perspective—from pyramid to web, from pinnacle to participant—also invites us to move beyond anthropocentric values and to recognise and respect the intrinsic value of the living world.” If the human species is to survive at all, we have to broaden our view of the world to the actual physical conditions that make the web of life possible. Its interest is our interest, and all economic endeavors should, consequently, see as their fundamental responsibility to ensure its continuous service.
Markets and Matches: Handle with Care
Along the path of protecting the environment we depend upon, Kate Raworth calls our attention to one particular issue which is “the growing use of monetary incentives in policies aimed at ending human deprivation and ecological degradation.” To her, “there may be far wiser ways—drawing on what we now know about values, nudges, networks and reciprocity—to nurture human nature towards the Doughnut’s safe and just space.”
“Traditional economic policy presumes that a reliable way to change people’s behaviour is to change relative prices, whether through creating markets, assigning property rights or enforcing regulations. ‘Just get the prices right,’ a typical economist will tell you: sort that and the rest will follow. . . . But while prices matter, getting them ‘right’ is not such a simple solution as it first promises to be: twentieth-century theory has led economists to overestimate the effectiveness of price as a lever and to underestimate the role of values, sense of reciprocity, networks and heuristics. . . . Setting a price is like striking a match: it sparks intense interest, but that spark ignites both power and danger. As Chapter 2 suggested, the market—like fire—can be extremely efficient at doing what it does, but it can also be a challenge to contain. And if it becomes all-consuming, it may transform the very ground across which it burns.”
In his book What Money Can’t Buy: the moral limits of markets, Michael J. Sandel makes the observation that “As markets reach into spheres of life traditionally governed by nonmarket norms, the notion that markets don’t touch or taint the goods they exchange becomes increasingly implausible,” adding “Markets are not mere mechanisms; they embody certain values. And sometimes, market values crowd out nonmarket norms worth caring about.”14 To give just one example of the opposition between the motivation for money and other, more heartfelt incentives, a study published in Ecological Economics reports that “In villages around Morogoro, Tanzania, community members were asked to spend half a day cutting grass and planting trees together in their local schoolyard. In villages where they were offered a small payment to take part, 20 percent fewer people were willing to participate than in villages where no mention was made of money at all. Furthermore, among those who were paid for the work—with a typical day’s wage—most said on completion that they were dissatisfied with the task and its pay, while those with whom money was not discussed at all overwhelmingly expressed satisfaction at having done something useful for their village.”[enf_note] Kerr, J. et al. (2012) Prosocial behavior and incentives: evidence from field experiments in rural Mexico and Tanzania, Ecological Economics 73, pp. 220–227.[/efn_note]
Many studies led during the last few decades have made clear that human beings are motivated by far more than cost and price. “So instead of turning first to markets to mediate our social and ecological relationships, the twenty-first-century economist would be wise to start by asking what social dynamics are already in play. What are the values, heuristics, norms and networks that currently shape human behaviour—and how could they be nurtured or nudged, rather than ignored and eroded? With this question as a starting point, economists will become far savvier in blending the blunt power of markets with the subtle force of morals. And empirical evidence hints at the possibility that this strategy could help to bring us into the Doughnut.”
The challenge is, now, to scale up these studies’ findings “to nudge and network whole cities, nations and international negotiations into the Doughnut.” One thing for sure, “We wasted two hundred years staring at the wrong portrait of ourselves: Homo Economicus, that solitary figure poised with money in his hand, calculator in his head, nature at his feet, and an insatiable appetite in his heart. It is time to redraw ourselves as people who thrive by connecting with each other and with this living home of ours that is not ours alone.”
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- Essays on Some Unsettled Questions of Political Economy, essay 5, paragraphs 38 and 48.
- Adam Smith, Wealth of Nations, Wordsworth Classics of World Literature English. Series edited by Tom Griffith, Introduction by Mark G. Spencer.
- See note #1.
- Knight, F. (1999) Selected Essays by Frank H. Knight, Volume 2. Chicago: University of Chicago Press, p. 18.
- Friedman, M. (1966) Essays in Positive Economics. Chicago: University of Chicago Press, p. 40.
- For a better understanding of this methodological sleight of hand, see Morgan, M. (2012) The World in the Model.
- More on that methodological shortsightedness and the relevance of Systems Thinking in the next chapter, Get Savvy with Systems.
- Bowles, S. and Gintis, H. (2011) A Cooperative Species: human reciprocity and its evolution.
- See Helbing, D. (2013) Economics 2.0: the natural step towards a self-regulating, participatory market society.
- See, for instance, Schwartz, S. (1994) Are there universal aspects in the structure and content of human values?
- See Ryan, R. and Deci, E. (1999) Intrinsic and extrinsic motivations: classic definitions and new directions, Contemporary Educational Psychology 25, pp. 54–67.
- Schwartz, S. (1994) Are there universal aspects in the structure and content of human values?
- Ormerod, P. (2012), Networks and the need for a new approach to policymaking, in Dolphin, T. and Nash, D. (eds), Complex New World. London: IPPR, p. 30.
- What Money Can’t Buy: the moral limits of the market, by Michael J. Sandel.
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In order to reach some predictability, classical economists have considered that human exchanges are rational. They just adopted the wrong model of rationality.
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