Doughnut economics #4

Key idea #4: economics often rests on flawed and mistaken assumptions about human behavior.

Thanks to Rob Liu for granting permission to reprint this from the Conscioused website.

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Fields investigating big subjects often begin by looking for the smallest unit in a system. For physicists, that’s the atom. For economists, it’s the Rational Economic Man.

So who is this character?

Essentially, he’s a theoretical model of the individual consumer. When this model was first developed in the eighteenth century, it provided a fairly nuanced picture of human behavior. By the 1970s, however, it had mutated into something much less sophisticated. Selfish, isolated, greedy and constantly calculating, Rational Economic Man was now an outright caricature.

In fact, the model became so outlandish that even the caricaturists themselves were forced to admit its flaws.

In 1844, John Stuart Mill added some flourishes to this cartoonish character in his Essays on Some Unsettled Questions of Political Economy. Rational Economic Man’s character, Mill claimed, was also defined by his hatred of work and love of luxuries.  But even that, as he himself noted, amounted to “an arbitrary definition of man.”

Despite its implausibility, this simplistic sketch of human behavior ended up changing the world. As the American economist Robert Frank put it, “Our beliefs about human nature help shape human nature itself.” Studies carried out in Germany, Israel and the US supported this view. They showed that students who spent time studying economics – and thus got to know Rational Economic Man personally – were more likely to approve of selfishness than other students. They behaved selfishly and expected others to do the same.

This view has even changed the way we talk about the world. Take the word “citizen.” It was once a commonplace term in newspapers and books in the English-speaking world. After the 1970s, however, it was rapidly overtaken by the word “consumer.” That’s a problem. Modern economics needs to align itself with how people actually behave in real life.

Rational Economic Man might make for an elegant model, but people’s behavior isn’t anywhere near as selfish or uniform as the model suggests. Take the Ultimatum Game. The rules are simple: Two strangers take part in the game. The first offers the second a share of a certain amount of money. If the latter rejects the proposal, neither player receives anything. It’s been played around the world countless times, and the results are fascinating.

According to the Rational Economic Man model, the second player should always accept the first player’s offer. However small the amount, free money isn’t to be sniffed at. But in reality, players often refuse the deal if they regard it as unfair. North American college students regularly turn down offers of less than 20 percent of the total amount. Even when it costs them, they’re inclined to punish selfishness. That just goes to show that fairness can trump self-interest.