Homo sapiens vs homo economicus

“We are not acquisitive automatons conditioned always to follow narrow self-interest.” So says the UK’s The Times in an article on “neuro-economics”, a sub-field of economics that bridges psychology and neurology in an attempt to understand human behaviour.

Alas, rather than an empirical approach to human behaviour, the economics profession has been willing to make the huge assumption about human behaviour that we are just self-interested rational maximizers. Not that economists would not be interested in such distinctions, but making such an assumption (and many more that go contrary to the real world) allows economists to engage in the production of sophisticated (math-heavy) theoretical models that are publishable in economics journals but that are not particularly relevant to policy here on earth.

Take away those simplifying assumptions, whether it is uber-rationality, perfect information, ignorance of increasing returns to scale, or differences, no externalities, constant marginal utility of money, full employment, etc, and the models cannot be closed so neatly. That’s why most of the interesting developments in economics over the past few decades have been from attempts to modify one of the core assumptions — and the results have almost always demonstated that markets do not necessarily lead to optimal outcomes.

The experiment in the article below finds that people do not act out of pure self-interest unless they have some sort of brain impairment. Someone please tell the Fraser Institute!

Neuro-economics builds on pioneering work that includes the 2002 Nobel winners, Daniel Kahneman and Vernon Smith. I recommend in particular, Matthew Rabin’s 1998 Journal of Economic Literature survey article, “Psychology and Economics” (abstract here).

The Times article (plus a sidebar) follows (a nod to New Economist for pointing this one out). It is fascinating stuff:

Why say no to free money? It’s neuro-economics, stupid

By Mark Henderson

IMAGINE that you are sitting next to a complete stranger who has been given £10 to share between the two of you. He must choose how much to keep for himself and how much to give to you.

He can be as selfish or as generous as he likes, with one proviso: if you refuse his offer, neither of you gets any money at all. What would it take for you to turn him down?

This is the scenario known to economists as the ultimatum game. Now the way we play it is generating remarkable insights into how the human brain drives financial decisionmaking, social interactions and even the supremely irrational behaviour of suicide bombers and gangland killers.

According to standard economic theory, you should cheerfully accept anything you are given. People are assumed to be motivated chiefly by rational self-interest, and refusing any offer, however low, is tantamount to cutting off your nose to spite your face.

Yet in practice derisory offers are declined all the time. Indeed, if the sum is less than £2.50, four out of five of us tell the selfish so-and-so to get lost. We get so angry at his deliberate unfairness that we are prepared to incur a cost to ourselves, purely to punish him.

Homo sapiens is clearly not Homo economicus, the ultra-rational being imagined by many professional economists.

An emerging fusion of economics, evolutionary psychology and neuroscience – neuro-economics in the jargon – is now starting to tell us why this is so.

… The results tend to support a very different theory of human behaviour from that favoured by classical economists. Our decisions seem not to be determined mainly by reason, but by a continuous battle between two sides of our psyches that are rooted in different mental circuits.One of these is rational, controlled by the cortex – the cauliflower-like outer section of the brain where reasoning takes place, which is uniquely developed in humans. The other, however, is emotional, governed by the limbic system – the deeper-lying brain structures such as the amygdala that are much closer in character to the brains of other mammals.

… What is starting to emerge is a more accurate – and recognisable – picture of human nature than classical economic theory provided. In many ways, it is a positive one, helping to explain the human capacity for kindness and co-operation, and the centrality of fairness to social norms. We are not acquisitive automatons conditioned always to follow narrow self-interest.But it also has a dark side. The depth with which we feel injustice, and the way we respond to it emotionally, rather than rationally, may also underlie extreme reactions to perceived wrongs. The gang leader who has a rival murdered over a slight to his honour and the fundamentalist who takes out his grievance against the West by becoming a suicide bomber are both particularly high-stakes players of the ultimatum game.

Professor Loewenstein said: “In a sense, suicide bombers are playing a version of the ultimatum game. Their sense of injustice is such that they are willing to pay the highest possible cost. For models of behaviour which assume that self-interest is all important, it has always been a mystery why people go to war or sacrifice themselves for their nation, their religion, or even for abstract principles. To explain these types of behaviours, we need to take account of how human actions are governed by emotion.”

Three ways science tells us that we’re not as rational as we think

SAVED BY FEAR

A POUND gained is the same as a pound lost, right? Not according to neuro-economics. There is a mountain of evidence that the fear of losing money is felt far more powerfully than the desire to make it.

When faced with an even-money gamble between winning £150 and losing £100, most people refuse the bet – even though the potential reward is greater than the possible loss. It usually takes a reward more than twice the size of the loss to persuade most people to take such a bet.

“We live our lives as if losses are twice as bad as gains are good,” Professor David Laibson said. Neuro-economics suggests that powerful impulses from the brain’s emotion circuits are responsible. Patients with damage to the amygdala, an emotion centre, and the orbitofrontal cortex, which influences it, are much more likely to gamble: more than 80per cent of the time, they will take the £150 to £100 bet.

Their compromised emotional systems allow their rational sides to win out when they make decisions. Evolution is probably responsible, as big losses pose a much greater “existential risk” to survival than big gains. Professor Colin Camerer said: “Having a little extra food is great, but having less food may present a chance of death, It is like a smoke alarm. If it goes off when you burn toast, that’s annoying. If it fails to go off when there’s a fire, it’s really bad.”

BUILDING TRUST

TRUST is absolutely critical to economic and social relationships, but neuro-economics suggests that we do not give it purely as a result of rational decision-making. In fact, it may be easily manipulated by changes in our brain chemistry over which we have little control.

A study led by Ernst Fehr has found a hormone called oxytocin – sometimes nicknamed the “elixir of love” as levels rise after sex and in the first flush of romance – can also make people more trusting.