Posts Tagged ‘The Economist’

Rationality, Optimum Crime, Individualism vs. Collectivism, and the Gambler’s Fallacy

September 24, 2014

UnknownThe Economist’s 5/10 issue* had a piece about the recently deceased Gary Becker – an economist and, really, sociologist. His work centered on the idea that “individuals maximize welfare as they conceive it.”

This “homo economicus” concept has taken a beating lately. Books like Dan Ariely’s Predictably Irrational show how our decision-making is skewed by illogical biases; and Daniel Gilbert’s Stumbling on Happiness how we’re bad at foreseeing what will make us happy. imagesThus, some trash free market economics because it supposedly assumes an economic rationality by market participants that doesn’t exist. And nanny-state policies are often premised on people not knowing their own best interests.

However, while of course we aren’t perfectly rational, nor are we perfectly irrational; we do have some idea of our own interests and desires, and the means to advance them. Hence one’s welfare is more likely enhanced by making choices to serve those interests and desires than if there is no choice. Moreover, Gary Becker importantly argued that maximizing welfare doesn’t just mean income. People understand that money isn’t everything. Health counts 10%.

images-3That was a joke. Actually, health counts a lot, and so do many other things (though money does help getting them). Again, people understand all this and live accordingly – even if not with computerlike rationality.

One sphere to which Becker applied this paradigm was crime. He doubted all crime is deviant or sociopathic, reckoning that some at least represents rational weighing of costs and benefits. While moral inhibitions do come into play, for many they’re not absolutes and can be overridden if the balance of payoff versus risk seems sufficiently favorable.

Unknown-1Becker also pondered crime’s costs. Crime, he realized, is akin to what economists call “rent seeking”—contending over the spoils of productive activity rather than creating new wealth. Conversely, rent-seekers trying to get government subsidization, to others’ cost (trade protectionism, for example) can be likened to robbers. The resources invested in all such activities (whether doing them or combating them) would be better spent on wealth producing efforts. And Becker also suggested there’s an optimal amount of crime in society – while it pays to get crime down to a low level, the cost of eradicating the last bit surely exceeds the benefit. (Certainly in the war on drugs, that excess is huge.)

Unknown-2Two pages later The Economist reported on a study suggesting why Westerners have a more individualistic psychology than collectivist-minded Asians. Led by Thomas Talhelm at the University of Virginia, it focused on whether the main crop has historically been wheat or rice. The relevant difference is that rice required about double the labor per calorie. This forced rice farmers to share labor, evolving a deeply rooted collectivist cultural ethos. And sure enough, the study found that, based on attitudinal questionnaire answers, a collectivist mentality in a locale correlates strongly with an agricultural history centered on rice as opposed to wheat.

Unknown-3The next page: gambling. Many believe in “winning streaks;” and also that bad luck is bound to reverse itself so that losses are recouped. The latter is known as the gambler’s fallacy; because statistics would instead predict reverting to the mean – i.e., “normal service resumed.” And in casinos, “normal service” means the house wins more than it loses (how else would they profit?).

Well, comes a study by Juemin Xu and Nigel Harvey finding, counter-intuitively, that winning streaks are real, while losing gamblers do even worse than reversion to the mean. That is, compared to what pure probability would predict, a win is more likely to be followed by a win, and a loss by a loss. How could that possibly be? The answer lies not in laws of probability, but in behavior. A winning better’s next bet has a tendency to be slightly more conservative and a loser’s next bet a little more reckless.

images-2This is why I read The Economist.

* I’m a little behind in posting these things, I have a backlog.