Behaviour, Economics

17 – Thinking like an economist 1: Anticipating and explaining economic behaviour

You will probably be surprised that my starting point in this discussion of how to think like an economist is a book called The Prehistory of the Mind: A Search for the Origins of Art, Religion and Science by Steven Mithen.

“In general, the Modern Humans of the Upper Palaeolithic [i.e. late stone age, 40,000 to 10,000 years ago] appear to have had a significantly greater ability to predict the movements of animals and to use that knowledge in their hunting strategies. How were they managing to do this? The answer lies in … anthropomorphic thinking. This is universal among all modern hunters and its significance is that it can substantially improve prediction of an animal’s behaviour. Even though a deer or a horse may not think about its foraging and mobility patterns in the same way as Modern Humans, imagining that it does can act as an excellent predictor for where the animal will feed and the direction in which it may move.” (Mithen, 1996, pp. 191-192).

When I read this I was struck by how applicable it is to the way most economists think about other people when we wish to predict their behaviour. Just like hunters of the Upper Palaeolithic, we economists generally start by assuming that the subjects of our attentions will behave just as we would ourselves in the same circumstances. Perhaps this should be called “economorphic” thinking.

Behaving “just as we would” means conducting a systematic and thorough weighing up of the pros and cons (i.e. the benefits and costs, broadly defined) of alternative courses of action, and choosing the action with the highest net benefits. That’s what economists seek to do when they use their models to help people make decisions, and it influences the mindset for most economists in their everyday lives. You may be surprised at how often economists trot out some economic theory or jargon when talking to each other about everyday matters. They tend to do it in a semi-joking way, but it’s not purely a joke – it’s a way of thinking.

Of course, non-economists don’t often do this systematic and thorough weighing up of benefits and costs. But like Mithen’s hunters, economists get a lot of milage out of assuming that they do. It seems simplistic, and perhaps even simple minded, but it is a powerful device. Very often the results from models that use the “thorough weighing up” assumption conform to an aggregated version of reality. Clearly an assumption doesn’t have to be literally and completely true to be useful. It just has to be true enough for model outcomes to be consistent with trends of behaviour across populations. This is not nearly so demanding a requirement as complete and literal truth.

Most economists apply economorphic thinking in what are recognisably economic contexts: consumption decisions by consumers and production decisions by business managers. Some, however, stretch the envelope. The grand champion of economorphic thinking is Gary S. Becker, who has applied it to issues as diverse as marriage, crime, immigration, baseball, religion and drugs. There is a collection of 138 essays by him in his book called The Economics of Life. The success of his approach can be gauged by the fact that he won the Nobel prize for economics in 1992.

Interestingly, economists aren’t the only discipline playing this game. Evolutionary biologists have taken to using an identical strategy and even some of the same models to explain the course of evolution. They assume that individual organisms will, on average, in the long term, operate in a benefit-maximising way (where the benefit in question is the successful passing on of their genes). They build this assumption into complex models and let the implications play out, resulting in some fantastic insights into observed evolutionary results. For examples, see The Selfish Gene by Richard Dawkins.

More recently, evolutionary psychologists are doing something rather similar similar to explain aspects of human psychology. Check out one of my absolutely favourite books, How the Mind Works by Steven Pinker. This is some real irony in this, as economists have sometimes been criticised for paying too little attention to psychology.

Having said all this, as an economist I think it is important that we don’t we take our simplifying assumptions too seriously. It is always tempting, but not wise, to believe your own publicity. We can use simple behavioural assumptions to help generate interesting and useful insights into likely human behaviour, but should always remember that the totality of human behaviour is vastly more complex and subtle. When used for forecasting, our models suggest likely trends in behaviour across the population, but not much more than that.

I also have long thought that economics should worry more about the realism of its assumptions and attempt to develop more detailed, sophisticated and accurate models of human behaviour. In the last few years this has started to happen in a big way, with the emergence of experimental economics as a large and exciting field of research. This is moving us closer to psychology and psychologists. It is complemented by agent-based modelling, which represents individual economic agents interacting, not just an amorphous mass of people aggregated to form a supply curve or a demand curve. I predict that these two new areas will have major impacts on economics over the next 50 years, but that the simpler approach of economorphic thinking will continue to be very useful and instructive.

David Pannell, The University of Western Australia

Further reading

Becker, G.S. and Becker, G.N. (1997). The Economics of Life: From Baseball to Affirmative Action to Immigration, How Real-World Issues Affect Our Everyday Life, McGraw-Hill, New York.

Dawkins, R. (1978). The Selfish Gene, Oxford University Press, New York.

Mithen, S. (1996). The Prehistory of the Mind: A Search for the Origins of Art, Religion and Science, Phoenix, London, 357 pp.

Pinker, S. (1997). How the Mind Works, Norton, New York.