Why we do what we do

Neoclassical economics suggests that we act as if we've rationally considered all possible outcomes factoring in probability and utility to come up with expected utility. Behavioural economics, in contrast, proposes prospect theory instead, which gives more weight to losses than gains and provides a better fit for the choices observed in the laboratory.

But, say Berg and Gigerenzer, it is even more unrealistic as a description of the decision-making progress, because it still requires weighing up every possible outcome, but then deploys even harder sums to produce a decision. It may describe what we choose, but not how we choose.

Gigerenzer prefers to look for actual decision processes. Take the simple act of catching a ball in flight. The spirit of neoclassical economics would say that people act “as if” swiftly calculating the parabolic arc of the ball. The spirit of behavioural economics would explain dropped catches with references to some systematic errors in the way we perform that calculation. But in fact, ball-catchers use a cognitive shortcut called the “gaze heuristic”, running forward and back while keeping constant the angle of sight up to the ball as it descends. No amount of “nudging” towards faster differential calculus will help prevent dropped catches.

This is tough on behavioural economists, because in order to be taken seriously by other economists they have had to play the optimising game. Switching to Gigerenzer’s rules would mean the end of economics as we know it.

Yet the critique is sobering. If behavioural economists do not really understand why we do what we do, there are surely limits and dangers to the project of nudging us to do it better.

Continue Readin @ the Financial Times

Behavioral economics has never been hotter. It’s not just the success of books such as Nudge and Predictably Irrational.

Check out our behavioral economics reading list.

Want to learn more on this subject? Read: As-if behavioral economics: Neoclassical economics in disguise?; How Companies Use Behavioral Economics to Squeeze Your Wallet; and How Apple Plays the Pricing Game.