Helping me to help me

Matt and I recently discussed whether we thought the government should intervene to correct intra-personal externalities that arise from time inconsistency in peoples’ behaviour. We particularly talked about smoking: models of smoking which incorporate hyperbolic discounting predict that people will want to quit in the future but will never be able to quit when the time comes (and here I’ve horribly conflated two different causes of dynamic inconsistency in the interests of simplicity). I wasn’t able to persuade him that it is in the public interest to correct such externalities, but perhaps this paper(NBER) cited on MR provides a harsher example of the consequences of time inconsistency (and, yes, I know I’m horribly mangling together two different causes of dynamic inconsistency).

The authors find that

…women who are the victims of domestic violence often leave and return multiple times. … We present supporting evidence that women in violent relationships display time inconsistent preferences… We find that “no-drop” policies — which compel the prosecutor to continue with prosecution even if the victim expresses a desire to drop the charges — result in an increase in reporting. No-drop policies also result in a decrease in the number of men murdered by intimates suggesting that some women in violent relationships move away from an extreme type of commitment device when a less costly one is offered.

The problem here is that there is no device available to the women that allows them to commit to leaving the relationship and force their ‘future self’ not to return. A no-drop policy on the part of prosecutors gives them that precommitment power and prevents them from reneging on their desire to leave the abusive relationship. By restricting the womens’ future choice set the state can make them better off. I feel bad talking about domestic violence in such dry terminology, but I think this is a really good example of how economic theory can help understand important ‘real world’ problems. Policies such as taxation of smoking and no-drop prosecution of domestic violence are not examples of government interference in peoples’ lives: they are examples of the government helping people to help themselves.

Drink driving, experience goods, and video games

Some Canadian developers are making a computer game which simulates driving home drunk. They and police think it will be a great educational tool, showing teenagers how dangerous it is to drive while intoxicated. I’m not sure if I completely agree.

Assume that this game will realistically represent driving while drunk. As some people do get home when driving drunk, there must be some probability of getting home without crashing. According to this online keno article, teenagers can play this game over and over again, they can get better at not crashing in the game, which may make them think that they are less likely to crash when they actually drink and drive, experts from Hoyer Law Firm assure. Now it might do this, or it might just give teenagers a false belief of being good at drunk driving (given that the road and obstacles will be different on your home road). However, if our teenagers are rational this shouldn’t be the problem (as they will update their beliefs appropriately), the problem is that drunk driving is an experience good with negative externalities.

People who haven’t gone drunk driving don’t know how likely it would be that they would crash, they are uncertain (they don’t know the probability density function and so base probabilities on arbitrary beliefs). Once someone has consumed drunk driving, they gain information, and they know what the risks are when they drive. Now if current social advertising his mis-led teenagers, to believe that the risks are greater than they truly, a situation with no computer game may be preferable to a situation where kids have played the game.

Although full information is usually preferable, teenagers decision to drink drive has a negative externality which is the damage they cause when they crash. By showing kids the true probability of crashing, we increase their consumption of drink driving (assuming that their prior belief was that it was more likely they would crash) to the point where the social cost outweighs the social benefit of their driving activity.

However, there might still be scope for the game and full information. If we can ‘tax’ the negative externality, we can bring the quantity of drink driving down to the socially optimal level. This would require having police fining people when they catch them drink driving. The fine would have to equal [‘cost of outcomes’ x ‘probability of outcomes’]/[probability of being caught and fined]. In this case the driver takes on the full social cost of their drunken activity, and so will only consume the socially optimal amount. The problem with apply this rule come from quantifying the costs. If a drunk driver kills someone, what is the cost of that in monetary terms?

Ultimately, given the difficulty of quantifying outcomes, I think this may be the case where mis-information (at least a focus on the negatives) may be the best way to improve social outcomes. Check out if you are looking for a speeding ticket lawyer.

In case you are hit by a negligent drunk driven party in Florida, then call up Stuart personal injury lawyers to file a lawsuit against them for causing you harm.

Anticipating a kiss

Matt posted earlier today about someone who gains utility from thinking about buying something even if they never actually buy it. There’s actually quite a lot of work that’s been done on utility gained from anticipation. George Loewenstein’s 1987 paper reports a study in which people were willing to pay more for a kiss they received in three days than they would be willing to pay for the same kiss today. They gained pleasure simply from thinking about the kiss and anticipating how good it would be. I don’t think the students in the study ever actually got the kiss so he doesn’t mention whether it lived up to expectations. Interestingly, this idea of utility from anticipation only seems to hold over non-monetary items. Nobody values receiving $1000 in three days more than $1000 today: monetary gains are discounted as one would normally expect.

Of course, if you get benefits from anticipation then that might affect your consumption of ‘real’ items. Botond Koszegi has a working paper in which he models a ‘personal equilibrium’ which describes the interaction between anticipated and actual consumption. Two phenomena which he identifies as arising from his model are self-fulfilling expectations and behaviours which depends upon unchosen alternatives. Both of these are commonly observed: the second in particular is often referred to by psychologists as a criticism of the standard economic model of consumer choice. We value consumption differently depending upon the proximate reference points: for instance, if you go on a fantastic holiday then even if the next holiday is good it is a disappointment. If incorporation of anticipation into our models of behaviour can make them that much more representative of reality then it’s certainly worth thinking about.

Risky regulation in the dairy industry

An article on Stuff reports that the government is choosing to do nothing about a potentially dangerous protein found in most milk produced by NZ cows. Apparently it would be very damaging to the NZ dairy industry to act on the rather uncertain scientific evidence, so the Food Safety Authority is downplaying the situation. The nutrition expert who wrote a report for the NZFSA says, “it does raise the whole question about how well… the question of uncertainty is dealt with by the authority” and partially attributes the problem to “government risk aversion com[ing] into play.” Risk aversion is well known to economists and is exhibited by most people; however, the government here is not exhibiting risk aversion at all.

What the government is doing is avoiding certain costs in favour of maintaining the dairy industry’s profits with a huge cloud of uncertainty sitting over them. Doing something about the protein now would be costly but would avoid any future risk of adverse scientific results hurting our exports. Doing nothing exposes the industry to the entire risk of such results. Why would the government act in such an apparently risk-seeking fashion? The answer comes from the field of behavioural economics and, in particular, prospect theory.

This theory was proposed by Daniel Kahneman and Amos Tversky to explain two observations pertinent to the NZFSA’s actions: loss aversion and risk seeking behaviour for losses. Loss aversion describes how people feel the pain of a loss far more keenly than the happiness of a gain of equal size. Tversky and Kahneman also found that, while people are risk averse for gains, they are risk seeking for losses. They will be willing to take huge risks in an attempt to avoid making any sort of loss. Taking these factors in to account perfectly explains the NZFSA’s behaviour: they are more than willing to take on the risk of future damage to NZ’s dairy industry in order to avoid the guaranteed losses of taking action now. Whether this is in the best interests of the country or the dairy is quite another matter as the comments in the article make clear.

The rational Chimpanzee

So according to a recent study, Chimpanzees play the ultimatum game more ‘rationally’ than humans (hat tip Marginal Revolution).

For those who don’t know, the ultimatum game goes like this. There are two players, and a sum of money that can be split between them (say $1). The first player gives decides on how this dollar should be divided between the two of them. Given this division the second player decides whether to accept this division or reject it. If the second player accepts they divide the dollar, if the second player rejects the offer they both get nothing.

If both players only value the amount of money they get then the first player will set up the division so they give player two only an infinitesimally small amount. However, when humans play the game we find that they divide the dollar up quite evenly. Furthermore, we find that when people divide the dollar up very unevenly, the offer is rejected, even though that means player two misses out on some money.

When they say that Chimps play a more rational game than humans, they mean that chimps behave in the way closer to what we would expect if the agents involved only valued money. All this really tells us is that humans value concepts like fairness at a higher rate than chimps do. Hardly a surprising result.

However, this does make a good point for economists to take on board. Humans obviously do value fairness,. Part of this is instinct, and part of this is institutional. By institutional, I mean that it is a preference we have developed as a result of the society we live in. Although economists are happy to abstract from ideas like this, when we apply economic theory it is important not to forget about the social norms that people also value.

But more importantly, the social norms that are created through the application of economic ideas may eventually change the preferences of the individuals in society. Fairness is useful as it helps reinforce co-operation in situations where a prisoners dilemma occurs. If analysts introduce policy that undermines fairness, or in some way degrades the social norm of fairness, then the socially optimal co-operative result becomes more difficult to achieve. Even more fundamentally, how does the change in preferences influence the way individuals value things, could the loss of fairness as a social norm leave people feeling more upset ceteris paribus? I think this is what sociologists have been telling economists for a while.

Ultimately, I accept the idea that social norms are important in determining preferences, but academic economists have good reason for not looking at them. Academic economists want to focus on thing they feel that they can objectively measure, so that their work does not become value laden. Defining preferences is not value neutral, and so is steered away from in academic work (except maybe in Evolutionary game theory? Not that I would know 😉 ). However, economists that want to apply their ideas to reality must realise that societies affect on preferences is non-trival. This makes the questions of how a given policy will impact on preferences more difficult.

Nationalism, the All Blacks, and the 2007 World Cup

Now remember, I hate nationalism. However, when I wrote this I found I was being strangely defensive of New Zealand. This made me realise that nationalism is just something that happens to people, often people aren’t explicitly trying to be nationalistic, society is just influencing the persons preferences in such a way that they become biased towards that nation.

After the recent loss by the All Blacks, a psychologist said that this was a ‘blow to the Kiwi tribe”. This idea has been criticised here, and in an update here. In the first criticisim the author says that he doesn’t feel like it’s the end of the world, therefore the psychologist is wrong. He seems to think that this influence on society may have existed 30 years ago, but not now. The second criticisim is from an author here. I agree with their article, that people mis-use statistics in order to make up stories.

Now I agree with the criticism raised by the second author (of course 😉 ), it seems strange to make such sweeping statements of national identity without evidence. However, at some level I think that the psychologist may have a point, albeit an obvious and not particularly enlightening one.

The psychologist is saying that there is a group that sees themselves as New Zealanders, and this group also feels very strongly about rugby. I agree that there are large numbers of people that do not associate themselves with this, however this group does exist. Furthermore, the importance of rugby to ‘New Zealanders’ is often placed on TV, taught in schools, and for someone who is brought up in NZ it does form part of the way that they identify the society that surrounds them.

In some sense, an individual’s preferences are partially endogenously defined by the society they grew up in. So even though a person makes choices based on their preferences, their preferences are a function of the way society is shaped. In this case a social event that occurs when an individual makes a utility maximising decision can influence the choice both by influencing the structure of the game or by changing the individuals’ preferences. Examples of this are:

  1. The values of the group you associate with are included directly in your own preferences. So when the NZ rugby team loses you as you feel like part of the team that did the losing.
  2. Although you do not have a preference over which team would win, you still want to function well in society. If you expect that an All Black loss changes the utility function and choices of other agents in the game, then you will respond by changing your behaviour

The first case is an example of when society defines an individual’s preferences. The second case is an example of when an individual will change their behaviour based on the belief of how other agents will react.

The idea of a ‘blow to the kiwi tribe’ relies on the fact that some individuals will take the result of the All Blacks game in the first sort of way. The loss of a rugby game must influence some New Zealanders preference set. Once we know that the loss of a game can influence the preference set of part of a given group, there is a case for other agents to change their behaviour as a result of the event, since the event will affect their expectations of the choice made by other agents. Ultimately, for there to be a ‘blow to the kiwi tribe’ the social event must provide a negative payoff from the part of an individuals preferences that are determined by society. I am not sure that the new social equilibrium post game must provide less ‘welfare’ than the pre-game social equilibrium, however I suspect in most cases it will be.

I prefer soccer to rugby by a mile, but I still felt hurt when the All Blacks were knocked out. As a result, on a personal level I can understand where this result the psychologist was discussing comes from. However, as the second author implied, it is sort of silly to make blanket statements without any evidence, especially when the above problem is likely to be full of assumptions that require us to assume cardinal utility! As a result, I don’t think it is appropriate to go from how the All Black loss affected me to how the All Black loss has influenced society.  This is the mistake the psychologist seems to have made.