Wednesday, April 29, 2015

Harvard Business Review: From "Economic Man" to Behavioral Economics

It should be well-known around these parts by now that I am interested in decision-making, behavioural economics, and their various offshoots. I also happen to read the Harvard Business Review from time to time, being my good Ivy League alumnus self. So when I saw HBR's Executive Editor of its New York group, Justin Fox, had just written a piece on the history of behavioural economics for the May 2015 issue, I couldn't help but give it a read.

WARNING: The above link might use up one of your five free HBR articles per month. I assure you, it's worth it. Besides, an advantage of posting this entry near the end of the month is you can reset that clock on May 1.

"From 'Economic Man' to Behavioral Economics" gives a great overview of the directly Jon von Neumann-Oskar Morgenstern-influenced decision analysis camp, and the more recently developed Kahneman-Tversky prospect theory camp (dubbed "heuristics and biases" in the article). It tracks early names like Ward Edwards I had only seen in passing. It also includes names, like Richard Zeckhauser, of people whose works I haven't yet read. It is accessible for the business-minded among us and I presume at least readable to everyone else.

I tend more toward the belief that people are rational, and that utility manifests itself in more mysterious ways than an arithmetic calculation all the time. For example, rather than call someone's preference to take a guaranteed $46 rather than have a 1/2 chance of winning $100 (expected value $50) irrational, I would simply say the person is willing to pay at least $4 to not have to take the chance. There is thus a utility of security that goes beyond an insurance company-style expected value number crunching in human decision making - but that does not render us irrational. I always liked economics better than psychology anyway.

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