Saturday, March 17, 2012

Economic Theory and Prediction

I was listening to a podcast at New Books in Law with Lynn Stout discussing her recent book Cultivating Conscience: How Good Laws Make Good People. She was arguing against the assumption of rational self interested behavior and pointed to the large amount of evidence that people often behave in ways that are not narrowly self interested. She then noted that some economists have tried to get around this by saying that people can value things other than money.  She, however, claimed that doing this eliminated the ability to make predicitions because you could explain anything by making the right assumption about what people value: "They did this because that is what they want to do." I think this misinterprets the sort of predicitions that can be made with economic theory. Economic theory enables us to make predicitions about how groups of people will respond to changes in constraints. Assuming that people value giving money to charity does not prevent me from making predicitions. I predict that, in general, if we lower the cost of giving to charity people will give more to charity. I predict that if we increase the cost of voting, in general, people will vote less. One of the fundamental assumptions in economics is that people like lots of different things and that they have tochoose between them. Assuming that one of those things is a nice house and another is feeding the poor presents no problem.The problem is not assuming that people value things other than money, the problem is using changes in those preferences rather than changes in constraints to explain behavior. For instance, explaining financial crises as a result of greed, as if people have become more greedy, tends not to hold up to scrutiny.

Interestingly enough, Professor Stout later noted that if you want to get people to behave ina pro-social fashion you need to make sure that the benefits of selfish behavior are not too great.

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