Federal spending and federal taxation in the United States set new records in 2019. And the federal budget deficit swelled to more than a trillion dollars. Europe is in the middle of an enormous spending binge. But apparently hard-core laissez-faire libertarian purists have taken over the world’s governments.
At least, that’s the case in the minds of many leftists and conservatives who have convinced themselves that “market fundamentalists” have conquered the world’s institutions, and have enacted a global regime of near-zero taxation, free trade, and almost totally unregulated markets.
We hear this over an over again when everyone from The Pope to Bernie Sanders claims “neoliberalism” — a term used to “denote… a radical, far-reaching application of free-market economics unprecedented in speed, scope, or ambition” — has forged the world into a paradise for radical libertarians.
As one writer at The Guardian assures us, the UK must end the nation’s “generation-long experiment in market fundamentalism.” Meanwhile, Tucker Carlson insists that American policymakers “worship” markets and have a near-religious devotion to capitalism.
The neoliberal takeover is so complete, in fact, that we’re told neoliberals are the ones really running the Labour Party. Meanwhile, sociologist Lawrence Busch informs us of a “neoliberal takeover” of higher education. “Free-market fundamentalists,” Busch contends, have transformed America’s colleges and universities into swamps of capitalist obeisance.
By What Metric?
But whenever I hear about how government intervention in the marketplace is withering away — to be replaced by untrammeled markets — I am forced to wonder what metric these people are using.
By what measure are governments getting smaller, weaker, and less involved in the daily lives of human beings?
In this country, at least, this case certainly can’t be made by consulting the data on government taxation and spending.
From 1960 to 2018, federal tax receipts per capita increased from $3,523 to $5,973, an increase of 70 percent.
Combining state and local taxation with federal taxes, the increase is even larger. Taxation per capita at all levels combined grew 118 percent from $5,247 in 1960 to $11,461 in 2018.
The size and scope of government isn’t just growing to reflect population changes. After all, the US population only grew 81 percent from 1960 to 2018. And the federal government, embroiled in a global cold war amidst a rising tide of social programs, wasn’t exactly vanishingly small in 1960.
In all these per capita graphs, I’ve factored in population growth because many defenders of government growth claim that governments must get larger as populations increase. Even if that were true, we can see that total spending and taxation is outpacing population growth considerably.1 But it should not simply be accepted that population growth ought to bring increases in government spending and taxation. Military defense of the United States doesn’t become more expensive simply because the population grew. Moreover, innovation and productivity gains make products and services less expensive in a functioning private economy. This is often masked by relentless money supply inflation in the name of price “stability.” But the natural progression of an economy is toward falling prices. Only with government procurements have we come to expect everything getting more expensive every year.
Fueled by huge deficits, federal spending has outpaced tax collections. Per capita federal spending increased by 191 percent from 1960 to 2018, climbing from $4,300 to $12,545.
The deficit topped a trillion dollars during the 2019 fiscal year, a new high for a so-called “boom period” during which deficits are supposed to shrink.
Ultimately, of course, huge deficits will put an additional burden on the taxpayers beyond the hundreds of billions of dollars per year necessary to simply pay interest on the debt. The huge debt levels put upward pressure on interest rates, and require more central-bank interventions designed to prop up demand for government debt. These interventions both crowd out demand for private debt, and have led to asset-price inflation as a result of money-supply inflation. This benefits the wealthy, but harms first time home buyers and ordinary savers.
The government spending itself is a problem as well. Governments try to play off government spending as if it were all a free gift to the taxpayers as some sort of “return” on the “investment” of taxes paid.
As Murray Rothbard has noted, however, government spending is just as damaging as the taxation that came before it. Government procurements bid up the prices of goods and services that could have been available at lower prices in the private sector were it not for the government spending. Steel and other materials would be less expensive for entrepreneurs. High tech workers could be employed innovating and making things for ordinary taxpayers instead of for government agencies and bureaucrats. Small business owners and ordinary consumers all are worse off as a result.
So, given that spending and taxation are at or are near all-time highs right now, where exactly is this takeover by laissez-faire libertarians we keep hearing about?
It’s certainly not in the regulatory side of the government.
The number of pages published in the Code of Federal Regulations increased 710 percent from 1960 to 2018, and 37 percent over the past twenty years. Every additional page represents new regulations, new rules, new punishments, and new fees. These are costs employers must contend with, and consumers must ultimately pay for. Protectionists who think that manufacturers would flock to the United States were it not not low tariffs might consider the regulatory burden placed on employers by our own domestic policies.
Both staffing and budgets for federal regulatory agencies continue to balloon. The combined budgets for federal regulatory agencies have more than tripled over the past 40 years, rising from under 20 billion in 1978 to 65 billion today.
Part of this has been to pay salaries for the ever growing army of federal employees. Employees at regulatory agencies doubled over the past forty years, rising from 140,000 full-time equivalent positions in 1978 to 280,000 today.
The US population increased by 47 percent during that time.
When the federal government isn’t spending more, it’s taking on more risk, committing the taxpayers to more bailouts, and flooding the market with government insured debt. As The Washington Post reported earlier this month, “In 2019, there is more government-backed housing debt than at any other point in U.S. history.” And these government guarantees are up considerably since the 2009 housing crash. The Post continues: “Now, Fannie Mae, Freddie Mac and the Federal Housing Administration guarantee almost $7 trillion in mortgage-related debt, 33% more than before the housing crisis … Because these entities are run or backstopped by the U.S. government, a large increase in loan defaults could cost taxpayers hundreds of billions of dollars.”
Yet, in spite of all this, we’ll no doubt continue to be told that government is withering away, government institutions are “underfunded,” and extreme anti-government libertarians have taken over. Of course, it’s entirely possible that the success of certain free-market ideas — however limited that success may be — has helped to restrain the growth of government taxation and spending. Without this so-called “victory” of the libertarians, we might be looking at a per capita tax burden that grew 200 or 300 percent in recent decades, rather than a “mere” 118 percent.
But given the ongoing growth of government taxation, spending, and regulation, it should be abundantly clear that we are hardly living in an age of “market fundamentalism,” laissez-faire libertarianism, or policymakers who “worship” the market. If anything, trends appear to be moving in exactly the opposite direction.
- 1. One factor in rising tax collections during the twentieth century was the increase in the number of women who became wage earners. Wages, of course, are taxable, while in-kind or cottage-type income earned in household work is generally not taxable. As women left the home, they were more easily taxed. This trend, however, peaked in the 1990s, and the proportion of the workforce that is women now is about equal to what it was in the early 1990s. Per capita tax collections have continued to increase since the 1990s nonetheless.
Market Talk – July 14, 2020
The United States is sending two aircraft carriers into the South China Sea at the same time as China is conducting military exercises in the contested waterway, the Wall Street Journal reported. The USS Ronald Reagan and USS Nimitz would be in the South China Sea from Saturday, the US news outlet quoted the strike group commander as saying.
China’s trade improved in June in a fresh sign the world’s second-largest economy is recovering from the coronavirus pandemic. Chinese imports rose 3 percent over a year earlier to $167.2 billion, rebounding from May’s 3.3 percent decline, customs data showed Tuesday. Exports edged up 0.4 percent to $213.6 billion, an improvement over the previous month’s 16.7 percent contraction.
India’s retail inflation picked up in June, pushed by price increases for some food and fuel items, but economists said the central bank could still ease rates because of concerns about economic slowdown caused by the lockdown. Annual retail inflation rose to 6.09% in June, compared to 5.84% in March, and 5.30% forecast in a Reuters poll of economists. June’s inflation remained above the mid-point of the Reserve Bank of India’s 2-6% target range; the Ministry of Statistics data showed on Monday.
India’s exports of gems and jewelry fell a record 55% in June quarter from a year ago to $2.75 billion as processing units were affected by a lockdown to curb the spread of the novel coronavirus, a leading trade body said on Monday. The country’s cut and polished diamond exports in the quarter fell 50% from a year ago to $1.8 billion, the Gems and Jewellery Export Promotion Council (GJEPC) said in a statement.
The major Asian stock markets had a negative day today:
- NIKKEI 225 decreased 197.73 points or -0.87% to 22,587.01
- Shanghai decreased 28.67 points or -0.83% to 3,414.62
- Hang Seng decreased 294.23 points or -1.14% to 25,477.89
- ASX 200 decreased 36.40 points or -0.61% to 5,941.10
- Kospi decreased 2.45 points or -0.11% to 2,183.61
- SENSEX decreased 660.63 points or -1.80% to 36,033.06
- Nifty50 decreased 195.35 points or -1.81% to 10,607.35
The major Asian currency markets had a mixed day today:
- AUDUSD increased 0.00266 or 0.38% to 0.69709
- NZDUSD decreased 0.00136 or -0.21% to 0.65276
- USDJPY decreased 0.08 or -0.08% to 107.19
- USDCNY increased 0.00646 or 0.09% to 7.00800
- Gold increased 8.15 USD/t oz. or 0.45% to 1,809.70
- Silver increased 0.04 USD/t. oz or 0.23% to 19.1520
Some economic news from last night:
Exports (YoY) (Jun) increased from -3.3% to 0.5%
Imports (YoY) (Jun) increased from -16.7% to 2.7%
Trade Balance (USD) (Jun) decreased from 62.93B to 46.42B
NAB Business Confidence (Jun) increased from -20 to 1
NAB Business Survey (Jun) increased from -24 to -7
GDP (QoQ) (Q2) decreased from -3.3% to -41.2%
GDP (YoY) (Q2) decreased from -0.3% to -12.6%
Some economic news from today:
Capacity Utilization (MoM) (May) increased from -13.3% to -11.6%
Industrial Production (MoM) (May) increased from -9.8% to -8.9%
WPI Food (YoY) (Jun) increased from 1.13% to 2.04%
WPI Fuel (YoY) (Jun) increased from -19.83% to -13.60%
WPI Inflation (YoY) (Jun) increased from -3.21% to -1.81%
WPI Manufacturing Inflation (YoY) (Jun) increased from -0.42% to 0.08%
The U.K. announced on Tuesday it will ban Huawei from its 5G networks, in a significant U-turn by the government that could significantly dent relations with China while appeasing the U.S. Speaking in Parliament, U.K. Culture Secretary Oliver Dowden said mobile network operators in the country would be forced to stop buying equipment from Huawei by the end of the year. They will also be required to strip out Huawei gear from their infrastructure by 2027.
Face coverings are to be mandatory in shops and supermarkets in England from July 24, Matt Hancock confirmed. The health and social care secretary said a store could refuse someone entry if they aren’t wearing one and to call the police if there’s a problem. People who don’t wear one will face fines of up to £100. Children under 11 and those with disabilities will be exempt from the new rule.
The major Europe stock markets had a mixed day:
- CAC 40 decreased 48.77 points or -0.97% to 5,007.46
- FTSE 100 increased 3.56 points or 0.06% to 6,179.75
- DAX 30 decreased 102.61 points or -0.80% to 12,697.36
The major Europe currency markets had a mixed day today:
- EURUSD increased 0.00496 or 0.44% to 1.13989
- GBPUSD decreased 0.00054 or -0.04% to 1.25555
- USDCHF decreased 0.00284 or -0.30% to 0.93881
Some economic news from Europe today:
U.K. Construction Output (YoY) (May) increased from -44.2% to -39.7%
Construction Output (MoM) (May) increased from -40.2% to 8.2%
GDP (MoM) increased from -20.4% to 1.8%
Index of Services decreased from -10.7% to -18.9%
Industrial Production (YoY) (May) increased from -23.8% to -20.0%
Industrial Production (MoM) (May) increased from -20.2% to 6.0%
Manufacturing Production (MoM) (May) increased from -24.4% to 8.4%
Manufacturing Production (YoY) (May) increased from -28.2% to -22.8%
Monthly GDP 3M/3M Change decreased from -10.4% to -19.1%
Trade Balance (May) increased from -4.80B to -2.81B
Trade Balance Non-EU (May) increased from -0.94B to 0.65B
NIESR GDP Estimate decreased from -19.1% to -21.2%
German ZEW Current Conditions (Jul) increased from -83.1 to -80.9
German ZEW Economic Sentiment (Jul) decreased from 63.4 to 59.3
German CPI (YoY) (Jun) increased from 0.6% to 0.9%
German CPI (MoM) (Jun) increased from -0.1% to 0.6%
German HICP (YoY) (Jun) increased from 0.5% to 0.8%
German HICP (MoM) (Jun) increased from 0.0% to 0.7%
PPI (YoY) (Jun) increased from -4.5% to -3.5%
PPI (MoM) (Jun) increased from -0.5% to 0.5%
Spanish CPI (MoM) (Jun) increased from 0.0% to 0.5%
Spanish CPI (YoY) (Jun) increased from -0.9% to -0.3%
Spanish HICP (YoY) (Jun) increased from -0.9% to -0.3%
Spanish HICP (MoM) (Jun) increased from 0.1% to 0.4%
Industrial Production (YoY) (May) increased from -28.7% to -20.9%
Industrial Production (MoM) (May) increased from -18.2% to 12.4%
ZEW Economic Sentiment (Jul) increased from 58.6 to 59.6
The US budget deficit topped $867 billion in June, the Treasury reported, which brings this fiscal year’s federal deficit to $2.7 trillion. Around $240 billion worth of taxes were collected in June; however, federal spending totaled $1.1 trillion. Last June, the deficit was only $8 billion and $984 billion for the duration of the year.
White House economic advisor Larry Kudlow confirmed that it is “increasingly clear” that a fourth round of stimulus payments will be provided to Americans. “We will try to make it targeted, we will try to incentivize not just work, although work is crucial, and going back to work. We want to incentivize investments, we want a pro-growth package,” Kudlow stated. Senate Majority Leader Mitch McConnell said he forsees the next package as being the last government handout.
Crime in the US is on the rise as cities continue to defund their police forces. “Shootings up 358%, over 300 people shot last month and NYPD retirements have quadrupled,” President Trump retweeted this Tuesday. “Under this administration, we are going to defend the police,” Vice President Mike Pence stated today. Over this past weekend alone, New York City reported 28 shooting victims. According to CBSN Chicago, “at least” 64 people were shot in Chicago over the weekend with 11 reported fatalities.
Transportation Canada announced that all travelers destined for Canada will be subject to a temperature screening. The new measure will begin in September 2020 at the busiest airports in the country (St. John’s, Halifax, Québec City, Ottawa, Toronto – Billy Bishop, Winnipeg, Regina, Saskatoon, Edmonton, Kelowna, Victoria). Travelers displaying a fever will not be permitted to enter the country for at least fourteen days.
US Market Closings:
- Dow advanced 556.79 points or 2.13% to 26,642.59
- S&P 500 advanced 42.3 points or 1.34% to 3,197.52
- Nasdaq advanced 0.94% or 97.73 points to 10,488.58
- Russell 2000 advanced 24.69 points or 1.76% to 1,428.26
Canada Market Closings:
- TSX Composite advanced 269.04 points or 1.72% to 15,908.45
- TSX 60 advanced 16.59 points or 1.76% to 958.31
Brazil Market Closing:
- Bovespa advanced 1,743.17 points or 1.77% to 100,440.23
The oil markets had a green day today:
- Crude Oil increased 0.21 USD/BBL or 0.52% to 40.3100
- Brent increased 0.19 USD/BBL or 0.44% to 42.9100
- Natural gas increased 0.03 USD/MMBtu or 1.74% to 1.7530
- Gasoline increased 0.0031 USD/GAL or 0.25% to 1.2492
- Heating oil increased 0.0052 USD/GAL or 0.43% to 1.2204
The above data was collected around 13:53 EST on Tuesday.
- Top commodity gainers: Natural Gas (1.74%), Palm Oil (1.48%), Orange Juice (1.12%), and Lumber (9.30%)
- Top commodity losers: Sugar (-1.99%), Corn (-1.96%), Oat (-10.18%), and Ethanol (-7.34%)
The above data was collected around 14:00 EST on Tuesday.
Japan 0.03%(-0bp), US 2’s 0.15% (-1bps), US 10’s 0.61%(-3bps); US 30’s 1.29%(-5bps), Bunds -0.44% (-4bp), France -0.13% (-3bp), Italy 1.29% (-2bp), Turkey 12.34% (+3bp), Greece 1.30% (+7bp), Portugal 0.44% (-3bp); Spain 0.44% (-1bp) and UK Gilts 0.15% (-4bp).
- Spanish 3-Month Letras Auction increased from -0.554% to -0.501%
- US 52-Week Bill Auction decreased from 0.200% to 0.155%
- Italian 3-Year BTP Auction decreased from 0.46% to 0.30%
- Italian 7-Year BTP Auction decreased from 1.10% to 0.95%
Extending the $600 weekly unemployment boost would support millions of workers: See updated state unemployment data
The U.S. Department of Labor (DOL) released the most recent unemployment insurance (UI) claims data yesterday, showing that another 1.4 million people filed for regular UI benefits last week (not seasonally adjusted) and 1.0 million for Pandemic Unemployment Assistance (PUA), the new program for workers who aren’t eligible for regular UI, such as gig workers. As of last week, more than 35 million people in the workforce are either receiving or have recently applied for unemployment benefits—regular or PUA.
Figure A and Table 1 show the total number of workers who either made it through at least the first round of regular state UI processing as of June 27 (these are known as “continued” claims) or filed initial regular UI claims during the week ending July 4. Three states had more than one million workers either receiving regular UI benefits or waiting for their claim to be approved: California (3.1 million), New York (1.7 million), and Texas (1.4 million). Seven additional states had more than half a million workers receiving or awaiting benefits.
While the largest U.S. states unsurprisingly have the highest numbers of UI claimants, some smaller states have larger shares of the workforce filing for unemployment. Figure A and Table 1 also show the numbers of workers in each state who are receiving or waiting for regular UI benefits as a share of the pre-pandemic labor force in February 2020. In four states and the District of Columbia, more than one in six workers are receiving regular UI benefits or waiting on their claim to be approved: Hawaii (19.7%), Nevada (19.3%), New York (17.8%), District of Columbia (17.6%), and Oregon (17.0%).
Figure A and Table 2 show the total number of workers who either made it through at least the first round of PUA processing—the new federal program that extends unemployment compensation to workers who are not eligible for regular UI but are out of work due to the pandemic—by June 20 or filed initial PUA claims during the weeks of June 27 or July 4. We do not sum the PUA claims with regular UI claims because some states have misreported PUA claims in their initial claims data, leading to potential double counting.1
As of last week, DOL reported that over 15 million workers across 48 states and the District of Columbia are receiving or waiting on a decision for PUA benefits, which underscores the importance of extending benefits to those who would otherwise not have been eligible. Five states have at least a million workers in this category: Pennsylvania (3.0 million), Arizona (2.3 million), California (1.9 million), Michigan (1.1 million), and New York (1.1 million). New Hampshire and West Virginia still have not reported any PUA claims. Florida, Georgia, and Oklahoma have reported initial PUA claims, but have yet to report any continuing claims.
We should despair for the millions who have lost their jobs and for their families, and our top priority as a country should be protecting the health and safety of workers and our broader communities by paying workers to stay home when possible, whether that means working from home some or all of the time, using paid leave, or claiming UI benefits. When workers are providing absolutely essential services, they must have access to adequate personal protective equipment (PPE) and paid sick leave. The current spike in coronavirus cases across the country—and subsequent re-shuttering of certain businesses—show the devastating costs of reopening the economy prematurely.
As we look at the aggregate measures of economic harm, it is also important to remember that this recession is deepening racial inequalities. Black communities are suffering more from this pandemic—both physically and economically—as a result of, and in addition to, systemic racism and violence. Both Black and Hispanic workers are more likely than white workers to be worried about exposure to the coronavirus at work and bringing it home to their families. These communities, and Black women in particular, should be centered in policy solutions.
To mitigate the economic harm to workers, Congress should extend the across-the-board $600 increase in weekly unemployment benefits well past its expiration at the end of July. If Congress does not extend these benefits through next year, it could cost us more than 5 million jobs and $500 million in personal income. Figure B, at the end of this post, shows these expected job losses by state.
As part of the next federal relief and recovery package, Congress should also include worker protections, investments in our democracy, and resources for coronavirus testing and contact tracing (which is necessary to reopen the economy). At the same time, policymakers should prioritize long-overdue overhauls of federal labor law and continue to strengthen wage standards that protect workers and help boost consumer demand.
The package should also include substantial aid to state and local governments so that they can invest in the services that will allow the economy to recover, particularly public health and education. Without this aid, a prolonged depression is inevitable, especially if state and local governments make the same budget and employment cuts that slowed the recovery after the Great Recession. More than five million workers would likely lose their jobs by the end of 2021, harming women and Black workers in particular since they are disproportionately likely to work for state and local governments.
1. Unless otherwise noted, the numbers in this blog post are the ones reported by the U.S. Department of Labor (DOL), which they receive from the state agencies that administer UI. While DOL is asking states to report regular UI claims and PUA claims separately, many states are also including some or all PUA claimants in their reported regular UI claims. As state agencies work to get these new programs up and running, there will likely continue to be some misreporting. Since the number of UI claims is one of the most up-to-date measures of labor market weakness and access to benefits, we will still be analyzing it regularly as reported by DOL, but we ask that you keep these caveats in mind when interpreting the data.
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Escaping Paternalism Book Club: Part 1
Rizzo and Whitman (R&W) begins with a primer on the “new paternalism” – the influential policy reform movement powered by the engine of behavioral economics.
For most of history, paternalists have drawn their support from religious or moral notions of goodness. They have claimed special knowledge, from God or some other source, about how people ought to live. The overtly religious character of temperance movements in the nineteenth and early twentieth centuries exemplifies this kind of “old” paternalism. Given their moral convictions, the old paternalists did not usually appeal to the preferences and desires of those whose behavior they wished to regulate. The very desire for alcohol – or drugs, or deviant sex – was condemned directly.
Behavioral economists, like most economists, still accept subjectivism. However, they have rejected the notion of accurate preference revelation. Experimental evidence suggests that individuals may systematically deviate from the behavior that would best satisfy their own preferences. The list of alleged deviations from strict rationality includes – but is not limited to – status quo bias, optimism bias, susceptibility to framing effects, poor processing of information, and lack of willpower or self-control. To the extent that these phenomena cause people to make errors, paternalist policies can in principle help them to do better – not by some exogenous standard, but by their own standards. This is the defining feature of new paternalism that distinguishes it from the old: the new paternalists claim to help people better achieve their own preferences, not someone else’s.
Cass Sunstein and Richard Thaler are the popular and intellectual leaders of the new paternalists. As R&W succinctly explain:
Cass Sunstein and Richard Thaler, coming from an economic perspective, support policies that will make people better off “in terms of their own welfare.” That welfare is best advanced by the choices people would make “if they had complete information, unlimited cognitive abilities, and no lack of willpower” (Sunstein and Thaler 2003, 1162). In other words, Sunstein and Thaler define the correctness of choices in terms of what people would choose for themselves – if only they were not afflicted with cognitive biases.
New paternalists then present novel rationales for a wide range of government interventions. For example, they advocate “sin taxes” to help not society, but the “sinners” themselves. Fat taxes help fat people weigh what they “really want to weigh.”
R&W close the chapter by explaining their multi-stage argumentative strategy.
Our case will consist of a series of challenges – in effect, hurdles that behavioral paternalist proposals must clear in order to be justified as a matter of policy. We will begin with the most abstract and conceptual, then proceed to more pragmatic and applied challenges.
The most abstract: Behavioral economists take simple models of rational choice too literally.
We refer to the traditional economic definition of rationality, adopted by mainstream and behavioral economists alike, as “puppet rationality.” It is a brand of rationality well suited for building models of how the world works. Models are not unlike stage plays, and puppets are the players. The puppets are always well behaved. They play the roles they were designed to play. They follow the rules. They have no motive force of their own. Real human beings, however, are not puppets. Their preferences and behavior may deviate from what is expected of agents in a model. But such deviation does not provide sufficient warrant for deeming them irrational.
But even if standard notions of rationality are solid, the much-hailed experimental evidence is sorely lacking in external validity:
Much of the evidence for “failures of rationality” derives from experimental settings that are effectively context-free. Such experiments may identify “raw” or unmodified propensities in human behavior in the laboratory. But they do not tell us how strong those propensities are “in the wild,” where people make real decisions…
We also argue that people are often (though not always) aware of their cognitive biases, and sometimes they act to counteract or control them. People “self-debias” in myriad and idiosyncratic ways…
Pragmatically, R&W argue that the new paternalism suffers from a massive yet neglected knowledge problem. Most fundamentally: “If actions do not reveal preferences, then what does?”
Last, the book explores public choice and slippery-slope problems with paternalism in great detail.
This is only Chapter 1. In Chapter 2, R&W appeal to “inclusive rationality” to critique behavioral economics at its root.
Are human beings rational? …But it is not easily answered, because the word “rational” has many meanings. Rationality can simply mean purposefulness, that is, trying to use the best means available to satisfy your goals or preferences given your beliefs about the world. It can mean taking an abstract approach to solving problems, applying universal systems of thought and inference, and following scientific methods. It can mean avoiding errors of logic and reasoning. It can mean revising one’s beliefs in accordance with Bayes’ Rule. It can mean having preferences that conform to certain axioms – transitivity, completeness, and so forth – which together guarantee the preferences are internally consistent and have a certain structure. In neoclassical economic theory, it has historically meant all of the above.
In this book, we will defend what we call inclusive rationality. Inclusive rationality means purposeful behavior based on subjective preferences and beliefs, in the presence of both environmental and cognitive constraints. This notion of rationality preserves the core notion of purposefulness, and in that sense it should seem familiar. But unlike other notions of rationality – many of which were invented for modeling purposes but have since taken on a life of their own – inclusive rationality… allows a wide range of possibilities in terms of how real people select their goals, form and revise their beliefs, structure their decisions, and conceptualize the world.
[R]eal people may do all of the following and still qualify as inclusively rational:
- Experience internal conflict that has not yet been (and may never be) resolved;
- Have preferences that change over time;
- Have preferences that are indeterminate or incomplete – i.e., that do not specify attitudes over all possible decisions at all possible times and states of the world;! Have preferences that are in the process of being created or discovered;
- Have preferences that depend on context, including both the options available and the way in which decisions are framed;
- Hold beliefs that serve purposes other than truth-tracking, such as providing motivation or intrinsic satisfaction;
- Make inferences based not on the strict rules of classical logic, but on contextual and linguistic cues they have learned from human interaction;
- Indulge “biased” modes of decision-making when the costs are low and rein them in when the costs are high;
- Economize on scarce mental resources by refusing to impose perfect consistency on their preferences and beliefs;
- Structure their environments, possibly in ways that constrain their own choices;
- Adopt personal rules and resolutions that create internal incentive systems;
- Enlist the help of friends, family, and other groups to assist in attaining goals;
- Rely on institutions, social customs, and market structures to assist in attaining goals;
- Employ heuristics that minimize cognitive effort and/or informational input.
R&W are well-aware of the methodological objection:
Because our notion of inclusive rationality is very broad, we might be accused of offering a theory that cannot be falsified. We should therefore clarify that we do believe positive claims should, in principle, be falsifiable. But some claims are more easily tested than others, and there is no guarantee that the most easily tested claims are also normatively relevant.
In Chapter 3, R&W flesh out this critique in great detail. To take one example: In real life, people often seem to change their preferences. Yet behavioral economists either refuse to consider this possibility, or treat changing preferences as ipso facto “irrational.”
The second interpretation is that the agent’s preferences have simply changed over time. In other words, if someone chose A over B on Monday but B over A on Tuesday, that could be the result of consistent (complete and transitive) preferences on Monday, and a different set of consistent (complete and transitive) preferences on Tuesday.
In general, economists resist preference change as an explanatory strategy because it feels ad hoc. Virtually any change in behavior can be rationalized as resulting from changing preferences, but economists usually wish to show the reasons why behavior may change even if tastes do not – for example, because of changing relative prices. To resort to saying preferences have changed seems like cheating. These are valid concerns from a positive perspective. But from a normative perspective, they hold little weight. There is no reason a person’s preferences should remain fixed. Rational people may change their minds – and we have not encountered anyone arguing otherwise.
1. Escaping Paternalism focuses almost entirely on the “new paternalism.” Yet the more I read the book, the more I concluded that “new paternalism” is largely an attempt to repackage “old paternalism” for an elite, secular audience. Even today, no more than 5% of people who want to forcibly reduce alcohol consumption think they’re helping heavy drinkers “achieve their true preferences.” Instead, they seek to give drinkers “what they need, instead of what they want.” The main audience for the new paternalism is: meddlers who also have an ideological ax to grind against the want/need distinction.
2. On present bias, behavioral economists don’t go far enough. It’s not enough to have exponential discounting rather than hyperbolic discounting. Instead, I say the rational discount rate for utility is no time discounting at all. Contrary to what you may have heard, this would not lead you to starve to death. And you should still discount for uncertainty, finite life, and so on. But, pace Hume, ’tis contrary to reason to prefer a present pleasure to a future pleasure solely because the present is now and the future is later.
3. R&W repeatedly mention behavioral economists’ support for mandatory “cooling-off periods.” I wonder how many behavioral economists have ever examined how often people even take advantage of this opportunity to cancel a contract. The last time I refinanced, we had to sign paperwork apprising us of our right to renege. When I asked the banker how often people exercised this right, he furrowed his brow and laughed, “Never.” I believed him.
4. R&W repeatedly discuss behavioral economists’ support for “employee-friendly” labor contract defaults. Given all the evidence that unemployment breeds misery, a wise paternalist would strive to “nudge” labor’s total compensation down, not up!
5. R&W insist that “inclusive rationality” is falsifiable, but I don’t think they name a single concrete counter-example. This is arguably intentional, for they often say things like:
We do not, however, claim that everyone is always fully rational. We are happy to concede that they are not. But it is one thing to say people make mistakes; it is another to clearly and definitively identify which actions are, in fact, mistakes.
Strikingly the word “opioid” does not appear in the text. (“Heroin” does, but sans empirics). I sincerely wish they had provided an “inclusive rationality” take on the putative opioid crisis.
6. One of my favorite passages:
We don’t expect that every reader will find all of our challenges to paternalism equally compelling. Some may find our conceptual objections persuasive, others may see the knowledge problem as definitive, etc. But our hope is that, taking the gauntlet of challenges as a whole, readers will recognize just how tenuous the entire new-paternalist enterprise is. Behavioral paternalism’s proponents often present it as just common sense – a set of smart, simple, straightforward corrections that will make us all better off. All we’re trying to do is correct some mistakes; who could be opposed to that? But the reality is far more difficult, complicated, and even dangerous.
As you’ll see, I find the conceptual objections only moderately persuasive, but the rest of their critique is strong indeed.
7. R&W go through a lengthy list of defensible “mistakes” people make in experiments. Let’s consider them one-by-one:
When real people take tests designed to test neoclassical rationality norms, they do not leave their inclusive and contextually shaped rationality at the testing room door. Instead, they may behave as they do in the real world. For example:
- They may assume, in accordance with ordinary conversational norms, that experimenters provide only information that is relevant to solving the problem – i.e., no irrelevant or “tricky” information. They do not immediately assume the experimenters are trying to fool them.
- They may resist the distinction between the validity of a syllogistic inference (e.g., “People with red hair are Martians, John has red hair, therefore John is a Martian”) and the truth of a conclusion itself (John is not a Martian). Normally, in everyday life, it is the truth that is more important.
This isn’t entirely wrong, but the ability to recognize such logical errors really is a crucial real-life skill. Anytime you propose an explanation for anything, logical reasoning opens your theory up to testing. Even for an explanation as simple as, “If I go to McDonald’s before 7 AM, the line will be less than 5 minutes long.”
- They may not assume that prior probabilities about something – such as the likelihood that someone has a disease – must be equal to the “base rates” from the population provided to them. Instead, their priors may be affected by their evaluation of the significance of the base rates to a particular problem in front of them – say, whether a specific person who chose to visit the doctor and chose to take a test has the disease. Treating priors in this way is fully consistent with the subjectivist Bayesian view that prior probabilities are subjective – a fact frequently ignored in the rush to deem subjects “irrational.”
- They may not agree with model-builders on the informational equivalence of different descriptions of a situation. Instead, they may infer implicit information or advice from how a problem is presented. For example, they may perceive an important difference between a stated probability of success equal to 0.7 and a stated probability of failure equal to 0.3. Perhaps the former conveys greater optimism, despite the formal mathematical equivalence of the two statements. Conversational norms and expectations do not always align with logic and probability theory. The former can be adaptive in the real world while the latter is adaptive on experimental tests. Which is more important?
Seems pretty crazy to me. Sure, if you’re marketing a product, you’re better off saying “70% success” rather than “30% failure.” Yes, the former phrasing suggests “greater optimism.” The only reason such rhetoric works, however, is that some potential customers are confused.
- They may attach satisfaction or utility to things other than what the analysts expect. For instance, they may value an object more because it is theirs already. Or they may care about feelings of gain and loss experienced during the experiment, not just how much money they have when they leave the laboratory. Or they may gain satisfaction purely from having a particular belief, irrespective of its truth (“My wife is beautiful and my children are gifted”).
Somewhat reasonable, though it’s usually tempting to call such behaviors “childish.” Picture a kid who wants his teddy bear, not an identical teddy bear that’s a hundred miles closer.
8. While we’re on the subject, R&W never discuss children. Are they, too, “inclusively rational”? If so, should parents stop treating them paternalistically? Or what?
9. Suppose someone has inconsistent preferences. How are we supposed to identify their “real” preference? While this might seem like nitpicking, R&W show that behavioral economists have been cavalier at best.
Some defenses have been offered for favoring some preferences over others in cases of conflict, but we find these defenses weak:
Verbal Statements and Survey Responses: When asked, people may say they would rather behave differently or have different preferences. For instance, smokers may say they would rather not smoke, and overweight people may say they would like to eat less. It is indeed possible that these statements reveal “true” preferences. However, the incentives for speech differ from the incentives for other kinds of action. Behavioral research has cast doubt on many economic principles previously taken as given, but the principle that talk is cheap remains intact. Speakers who say one thing while doing another may simply be expressing what they regard as socially approved attitudes – a phenomenon known as social desirability bias (King and Bruner 2000; Grimm 2010). Or their statements may simply reflect “experienced opportunity cost,” i.e., the dissatisfaction that always results from options the agent has forgone.
Note: If we take Social Desirability Bias seriously – as I think we should – we can readily identify the “real” preference. Namely: Contrary to the new paternalists, the real preference is what people really do!
Regret: A person may feel, and express, feelings of regret about the choices they have made: “I wish I had not done that.” Although regrets are real, they do not necessarily reflect all costs and benefits associated with an action. specially for intertemporal choices, such as getting inebriated last night and having a hangover today, the regret is typically experienced while the cost is being experienced in the present and the benefit is already in the past. That does not mean the costs outweighed the benefits at the moment of choice – only that the remaining costs outweigh the remaining benefits. In addition, it’s worth noting that regret can also be felt about the kinds of choices that behavioral paternalists favor. When approaching death, people often express regret at not having lived a more spontaneous and present-oriented life (Ware 2012).
They’ve got them there!
If regret may be experienced regardless of the action taken, then it offers little guidance to the paternalist about which preferences are “true.” As with verbal statements, regret can simply reflect the experience of opportunity cost…
Self-Constraint and Commitment Devices: People will often use various devices and strategies to try to keep their vices under control: planning automatic deductions for savings, avoiding locations where they will be tempted to smoke or drink, etc. These activities do provide further evidence of conflicting preferences, and we will discuss them more in future chapters. They do not, however, show which preferences are superior. Commitment devices reveal one set of preferences at work – but other choices show other preferences at work. Furthermore, the outside observer has no means of knowing whether the right amount of self-constraint has been performed.
Planned versus Unplanned Choices: Behavioral paternalists often favor the preferences of a “planning self” over the spontaneous or “acting self.” The idea is that the planning self is more likely to take all costs and benefits into account and render a considered decision. But the planning self does not necessarily represent a disinterested party; rather, the planning self may represent only the longer-term and more self-denying parts of one’s personality (Cowen 1991). This becomes most apparent in the case of extreme behaviors such as anorexia, where the planning self dominates an acting self that might wish to indulge more often.
10. When I began Escaping Paternalism, I skipped over chapters 1-5, fearing they’d be long-winded, half-baked Austrian philosophy. I was so impressed with chapters 6-10, however, they I started reading the book from the beginning as soon as I finished chapter 10. I swiftly concluded that unlike so many other Austrian-inspired works, Escaping Paternalism was not only conceptually thoughtful, but eager to engage with an array of empirical literatures. If you’re impatient with economists waxing philosophical, I urge you to make an exception here.
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