Behavioural Science and Public Policy

I have posted here on a number of occasions about the relevance of the growing literature on behavioural economics and public policy for the Irish context. This post updates this with some new material and I hope people don’t mind if I draw on some from previous posts.

Increasingly, behavioural science is being used as a term to encapsulate the integration of psychological factors into understanding economic decision-making. This is basically an attempt to preserve the phrase “behavioural economics” to refer to explanations with explicit utility-theoretic foundations and also to avoid a lot of work from psychology simply being repackaged as “behavioural economics”. It is not a wholly satisfactory compromise as the phrase “behavioural science” means different things to different people  but it is certainly helping to form a shared set of ideas and methodologies and looks likely to continue as the main way of  describing this work.

There are a number of reasons for the explosion of interest in this area including the award of the Nobel prize to Daniel Kahneman in 2002 and the adoption of the book “Nudge” by the Obama and Cameron administrations. I think also the sense of purely neo-classical microeconomics being bound up with the regulatory failures surrounding the financial crisis is also fueling an appetite for more realistic accounts of decision-making. It is likely that a lot of what is now called economics will increasingly move towards a disciplinary more blurry field in particular in areas like financial regulation.

Some recent very useful overviews of this area include: Shafir’s Behavioural Foundations of Public Policy is excellent; Sunstein’s lengthy “Empirically-Informed Regulation” provides a strong overview; Nudge is obviously important; a recent paper by Brigitte Madrian outlines the behavioural approach to policy; this excellent short paper by Beshears et al makes the case for the limitation of revealed preferences and the need for other mechanisms; one of the researchers in our group has put together a data-base of studies employing what can loosely be called “Nudges” in various areas of policy; Publications of the Behavioural Insights Team in the Cabinet Office are available here;  I have also put together a fairly detailed reading list on behavioural economics and public policy, including legal and ethical issues; The Brookings Institute publication “Policy and Choice: Public Finance through the lense of behavioural economics” is one of the best available introductions to this area.

In terms of why Irish policy-makers should care about this area, below is not intended to be exhaustive but is an attempt to summarise the main areas.

1. The use of “nudges” to encourage saving is the most developed behavioural policy literature. This has reached national policy significance in the roll-out of pension auto-enrolment in the UK. The Irish pension framework  was to see the entire private sector begin to be auto-enrolled in 2014 but subject to an economic recovery that has not yet materialised sufficiently. The psychology behind how people react to default settings in pensions is very interesting with a lot of opportunities and threats, among the latter the possibility that people will anchor too much to the default contribution and under-save as well as the possibility that naive consumers will simply be ripped off by providers who can charge higher fees with this less savvy group.

2. The role of behavioural science in financial regulation is a key question. The Financial Conduct Authority has been exploring this area actively. This excellent FCA occasional paper examines the potential implications of behavioural economics for financial regulation. In the US context, this very interesting report by Barr, Mullainathan and Shafir from 2008 outlines a new approach to consumer regulation based partly on the notion of “sticky defaults” whereby firms would be required to default people into the most desirable option based on their characteristics and only move them if they make choices following being provided with clear information. Such models are discussed in relation to two markets fraught with behavioural bias and consumer exploitation, namely credit cards and mortgages. The document also sets out proposals for changing the incentives of brokers.

As noted in another post, this literature is leading to a lot of very interesting questions for financial regulation that are hard to ask in a neo-classical setting. Below are some examples but obviously a small subset.

Should credit card variable and teaser rates be banned or at least taken out of the regular offers made to consumers?

Should mortgage providers be forced to disclose better deals available to their customers?

Should pay-day lenders be granted full access to the Irish market? If so, how do you regulate them?

Should auto-enrolment proceed in Ireland, what provisions should be put in place so that companies do not exploit naïve consumers by charging fees well in excess of regular rates?

Do behavioural biases prevent annuities markets from functioning optimally?

3. The implications of behavioural science for the design of welfare and taxation policies is another active area with applications across the Irish policy sphere in everything from structuring environmental taxes to design of incentive systems to encourage employment. Cass Sunstein, who is one of the main figures in this area, recently released a new book called “Simpler: The Future of Government“. It outlines an approach to government that emphasises making regulations, laws and taxes less confusing and more robust.

4. The search for alternative measures of welfare and social progress is a big concern of the emerging literature (see summary and readings from recent conference on this). The Stiglitz-Sen commission is becoming a standard reference on this topic and it is pretty comprehensive. Understanding how we go from the empirical literature in this area into meaningful indicators is an important direction for this literature. As well as interest in measuring well-being, there is growing interest in the bidirectionality of well-being and economic activity with a lot of recent work looking at impact of mental health in particular on economic functioning. (See Layard: Mental Health: The Frontier of Labour Economics). Related to this, an increasing literature has been examining the economic importance of ensuring good child mental health. This literature is helping us to understand better the interplay between poor child mental health and later economic outcomes. A recent PNAS paperby Goodman, Joyce and Smith gives a good indication of the type of research being conducted in this area. This is an extremely important area of research at the interface of psychology and economics.

5. A lot of recent research has begun to examine more closely the mechanics of what happens during job search from a more psychological perspective. Some of this research is explained in accessible form in this Brookings Institute publication. There is no question that traditional labour supply models are not a complete guide for understanding the behaviour of people who have been laid off and the literature on job activation needs badly more cross-disciplinary work to understand what is shaping behaviour and what environmental changes people might respond to.

6.  James Heckman and colleagues have been working on a large programme to integrate personality psychology and a theory of human development into economics. This is extremely important in terms of providing a theoretical and empirical basis for allocation of spending in health and education. Many of these papers are available on Heckman’s IDEAS webpage. Colleagues in Geary are involved in a collaboration looking at early childhood development. Some of these ideas are presented in accessible form on this website.

7. Prompted by Frank Barry in the comments, this paper by Peter Lunn at ESRI is a good overview of potential behavioural factors in the banking crisis. He has also published a number of other papers relevant to the above points (available here).

There are clearly several empirical, ethical and legal issues with the development of this agenda across all of these areas. The enthusiasm for randomised controlled trials in this area clearly has to be tempered with an awareness of their limitations (e.g. here). Furthermore, the extent to which interest-groups constrain the types of policies that emerge will be interesting to observe.

Along with colleagues, I have organised an annual workshop on economics/psychology in Ireland and it will take place again on October 31st in the Geary Institute (sign-up page here). Anyone interested in this area is welcome to attend.

Comments

comments

19 thoughts on “Behavioural Science and Public Policy”

  1. Thanks Liam, that’s a really useful reading list. I’ve found Pete Lunn’s paper on “The Role of Decision-making Biases in Ireland’s Banking Crisis” (Irish Political Studies, 2013) really stimulating as well… accessible and challenging.. a great read for students.

  2. @Liam
    Thanks for the links. One area that interests me is finance and the difficulty of managing tail risk – are markets biased towards optimism and short termism and is this related to how our brains work?

  3. Should pay-day lenders be granted full access to the Irish market? If so, how do you regulate them?
    No. You don’t and you can’t.
    See film ‘Agnes Brown’. Also refer to the Irish gombeen man. Farley McKeown (from ‘Children of the Dead End’, Patrick McGill), is alive and well in every social strata in Ireland.

  4. Behavioural Science – The Dahiya Doctrine

    http://www.irishtimes.com/news/world/middle-east/israel-s-assault-on-gaza-is-an-expression-of-the-dahiya-doctrine-1.1902934

    Informative.

    @all

    Life is inter-disciplinary. Policy making based on a single discipline will have unintended/unexpected consequences in other areas; policy making based on a single discipline grounded in false assumptions is almost certainly guaranteed to result in cockamaimey/disastrous outcomes.

    Sound policy making demands interdisciplinarity.

  5. Liam,

    The response to some of the issues you raise is old-fashioned common sense.

    It doesn’t take a genius to understand the purpose of various marketing wheezes and why it’s so difficult to close them down.

    Has the world become so complicated in recent decades that most public policy decisions need to have some direction from a consultancy report, often produced by people who’ve never made even one consequential decision in their professional lives?

    Many issues in organisations come down to accountability but often well paid people would be embarrassed to have President Harry Truman’s famous “The Buck Stops Here” sign on their desks.

    Tim Harford wrote in the FT last March:

    [Meanwhile, the policy wonks plug away at the rather different challenge of running rigorous experiments with public policy. There is something faintly unsatisfying about how these policy trials have often confirmed what should have been obvious. One trial, for example, showed that text message reminders increase the proportion of people who pay legal fines. This saves everyone the trouble of calling in the bailiffs. Other trials have shown that clearly-written letters with bullet-point summaries provoke higher response rates.

    None of this requires the sophistication of a mathematical model of hyperbolic discounting or loss aversion. It is obvious stuff.

    Unfortunately it is obvious stuff that is often neglected by the civil service. It is hard to object to inexpensive trials that demonstrate a better way. Nick Chater calls the idea “a complete no-brainer,” while Kahneman says “you can get modest gains at essentially zero cost.]

    http://www.ft.com/intl/cms/s/2/9d7d31a4-aea8-11e3-aaa6-00144feab7de.html#axzz3B20nzi6L

    I was in the customer service centre of an international insurance/ assurance group a few months ago where modern technology was in use including a ticketing system.

    The service was very poor overall and what it needed in respect of work that was potentially boring was a balance between laissez faire and some control, as why would workers who could process many customers in a particular time frame remain motivated while others would disappear from their desks for extended periods?

    This again is a common sense issue.

    In policy-making, so-called nudges are often used as a substitute to more effective options such as pricing and taxation.

  6. @ DoD

    “Life is inter-disciplinary.”

    +1 and then some

    Acceptable models

    Clearly stated and assumed assumptions
    Clear on idealisations and simplifications
    Transparent on which effects are neglected
    All relevant risk factors taken into account
    The model relies not purely on historical data but aims to model the future risks using theory, scenarios, expert opinion
    The model is tested
    The model is regularly challenged and compared against industry best practice

    Unacceptable models

    Theory is misapplied
    Pure stats, no explanation
    Hidden and unclear assumptions
    Too many simplifications
    The model is not tested against the real world
    Inappropriate or stale parameters
    The model is not sufficiently understood within the company ”

    Muenchau the other day : “The one thing the European Central bank can do without any legal problems would be to drop the silly Smets-Wouters macroeconomic model”

    It all comes back to what Neil Postman said

    ‘One way of looking at the history of the human group is that it has been a continuing struggle against the veneration of crap.’

  7. @ David O’Donnell

    1) Farmers tend to have notions about themselves, like the goats in Kerry 😳

    2) Both my parents came from small farms and the tradition of one family member getting the farm while the rest of the children being encouraged to do well in school to get on in the world, must be a factor;

    3) While in the past the small farmer didn’t have much, the urban manual worker had less as the farmer could be self-sufficient in food;

    4) In low-income urban areas, there hasn’t been a tradition/ culture of encouraging children to use education to better their opportunities.

    A friend in UCC was the only person on his road in Togher, within walking distance of the college, who was there and it wasn’t because his parents had more income.

    My friend had gone to the North Mon (monastery) school and the majority of city students came from the rugby-playing schools Pres and Christians.

    5) The vocational/ technical school system developed from the 1930s but the schools were viewed as poor relations to the mainly religious run secondary schools.

    To poor urban families there wasn’t a perception of value as there wasn’t a dual-education apprenticeship system while the craft sector operated on a connection/ family basis as did companies like Guinness and Henry Ford & Sons.

    Culture or tradition are important as can be seen in the priority that different ethnic groups give to education and apparently the early years are very important for a child’s educational development.

    In emigrant societies it’s usually the brightest and/ or ambitious who tend to leave resulting in depressed areas losing role models.

  8. @MH

    The potential for ineffective soft-paternalistic policies to be used as a substitute for effective and harder policies is certainly there. One very plausible way this can happen is when governments want to be seen to regulate an industry but dont really want to have any impact on them. There are all manner of very light policies that can make it look like something is being done. Education and awareness initiatives are particularly vulnerable to this type of effect and it is not too bad a rule that if an industry strongly supports some form of intervention it usually already knows it wont affect their bottom line. Having said that, not all soft-paternalist policies are ineffective and certainly not all behaviourally-based policies are soft-paternalist.

    In terms of your point about common-sense, the point of this literature is to start from more realistic assumptions so yes some of the starting points will look like plain common sense. I dont agree that this means the rest is obvious or we shouldn’t research it. Take pension autoenrolment. It derives from a fairly simple idea that people procrasinate in areas they find complex and that setting pensions as the default option will increase participation. Common sense yes but opens up a substantial number of new issues including whether people will anchor to the default setting (have just finished work on this), extent to which firms will be able to charge more to what is effectively a less active and experienced group, extent to which people will substitute from other forms of saving and so on. Given this policy will affect millions of people (approx 13 million in the UK) it is worth researching and the work being conducted in the UK is teaching us a lot about these types of policies. Who should do this research and how much they should be paid is another question and one I am sure you have views on.

  9. @MH

    Ta for that. I respond later.

    @LD

    I’m a great believer in researchiing the ‘obvious’ & ‘common-sensical’; pleasant surprises at times.

    @seafoid

    Looks like Angela’s Fiscal Corset is out of fashion; the models won’t wear it!

  10. @David O’Donnell
    “Can you provide 5 bullet points on ‘how’ the childer of farmers are are three times more likely to go to college than the average school-leaver. ”
    [If I may intrude]

    1. Status in the Community Reason:
    Farmers are self-employed (ignoring the significant subsidisation), and strive not to see the sons become “someone else’s boy”. This was and is an important factor in many decisions farmers make in relation to their children education.
    2. Farmers, while maybe not income rich, have both stock and assets (land) that they can sell, if the cost of fees or maintenance is proving prohibitive. In other words they can usually access cash, if required.
    3. The children of farmers (and farmers themselves) have, for several years prior to adulthood, acclimatised themselves to the idea of moving away from home; much more so, in my view, than children reared in large cities.
    4. Grant Availability: The ability to increase or reduce income for the basis year on which grants are decided is a significant factor. This would apply particularly to beef farmers.
    5 Cultural factors within city districts with high unemployment or fragile employment and the influence of peer groups in such areas would be a definite negative factor in 3rd level attendance.

    Coming from a smallish farm, a long time ago, the above is my tuppence worth on the issue.

  11. Off topic

    http://www.ft.com/cms/s/0/d438a334-2a15-11e4-a068-00144feabdc0.html

    “Mario Draghi, the European Central Bank president, has signalled he is becoming increasingly concerned about high unemployment and low inflation in the eurozone by backing calls for countries to be allowed to apply strict rules on government deficits more flexibly.

    In a significant change in tone on the eurozone’s fiscal rules, Mr Draghi said countries should be encouraged to spend more within existing EU regulations that limit budget deficits to 3 per cent of gross domestic product. Germany, the eurozone’s largest and strongest economy, is one member state that could lift growth by boosting investment and cutting taxes.”

    I wonder if they’ll act before the roof comes crashing down

  12. @Seafoid
    “I wonder if they’ll act before the roof comes crashing down”

    Of course they will.
    Up until now, its somebody else’s roof that has been caving in. Now its ‘their’ roof. In addition winter is coming, and the Russians control the gas.

    PS. Some doubts about the Irish investment-led recovery emerging. Anecdotal evidence is that August is slow. But perhaps all the so called ‘heavy-hitters’ are in Mauritius, or have taken to hiding their money under the bed again.

  13. @Michael & Joseph

    Appreciate the responses from two, if you’ll pardon the distinction, erudite sons of ‘small’ farmers.

    A fascinating question ….
    Joseph’s fact on the creative accounting on grant applications for third level children, and the fact that asset value is ignored, was addressed by Minister Quinn. Nothing happened; see examiner article in first comment in one of the following threads. Minister Quinn, a competent minister over all his portfolios, resigned. Only one example of how the most consistently successful lobby group in the history of the recent Irish state in ‘somehow’ directing state resources and influence in its own direction.

    Michael notes that the group in question “tend to have notions about themselves”.
    Fact. Methinks it originates in the early 19th century when cattle were deemed more profitable than people. On spoils of the industrial revolution the English bourgeois developed a taste for beef; which requires far less people than grain production. Toss in the Land League, it is perhaps no surprise that those left standing ‘tended to have notions about themselves’; and they still do today. An example of how economic change leads to the emergence of holders of such notions.

    As for the attitudes of the ‘large’ farmers, towards themselves and others; lacking research, I draw, following The Aesthetic Turn in Irish Economics, on an illustrative short story noted by Eoghan Harris recently:

    ‘Apart from the M.J. Molloy and John McGahern the only writer I really rate on the repressive rural Ireland of recent memory is Sean MacMathuna. His chilling short story, “A Straight Run Down to Kilcash” (1987) takes us down one of the dark roads …

    Dennis Stack, the son of a strong farmer, a student at a prestigious Munster Catholic college run by priests, makes a domestic servant at the school pregnant. She is packed off to England. Denis is merely rusticated for a few months.His father collects him from the school in a Land Rover. Far from being angry at Denis, he seems proud of his son’s sexual prowess. “Did you put her up the pole, Denisheen you whore?” Stopping for a pint, he probes his son for details, “What was she like, son?” I looked at my pint and at my father’s half-embarrassed face. “She had big tits,” I said. “Sure all scrubbers have big tits,” he said in matey confidence, clinching his wisdom with a wink.Back on the road to Kilcash, his father boasts of the financial success of the farm. “Pound notes are springing out of every field of the three hundred and forty acres. And not one penny tax.” He adds that it was “amazing what a farmer married to a national school teacher could do because she didn’t pay income tax either”.Boasting of how he bought a calf and ducks dirt cheap from cash-strapped sellers, he says: “If you have money you can do the divil himself.” And he urges his son to make an advantageous marriage match.”He told me Mary Kissane was going to do medicine. What he did not mention was that she had two hundred acres ‘bounding’ our land and wore glasses.” Then his father comes to the core question: ‘Would you think of Mary?'”I nodded my head in understanding. Tears came into his eyes. “If you do son, it’s a straight run for both of you down to Kilcash.” Kilcash was our graveyard and a straight run down to it was a local euphemism for a ‘happy life’.

  14. I don’t know why the attitude to the agricultural dedication to education is so negative. Despite the far greater costs on rural students, the commitment of the farming class to education should be commended. It’s a cultural thing borne out of the realisation that the land cannot possibly sustain the whole family and education is the logical escape. Coming from that class, I’ve always admired the massive sacrifices made to educate a family and how far smaller incomes can be made to stretch.
    The fact that this is a cultural rather than financial decision was borne out by the fact that at time of rising incomes, significant increases in college places and the abolition of fees, the proportion of students from non-manual labourers (ie Gardai etc) actually fell during the boom. There were bigger incomes, more places and smaller costs – and therefore no excuses other than the biggest of them all: culture.

    On the issue of grants:
    – farm incomes (and indeed all rural incomes) are lower than urban incomes and therefore more likely to qualify
    – maintenance grants are based on distance from college, so they’d actually get a bigger grant award simply on location
    – the grant assessments are done annually, so while a multi-year approach to structuring income might swing a grant one year, it can’t be done every year.
    – the main advantage of the assets is not that they can be sold (and if they are, so what?) but that [as one farmer said to me] “you can keep writing cheques and hope the bank keeps meeting them”. The assets provide the opportunity to avail of credit, not facilitate a scam. [which is the accusation].

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