Why Free Markets Make Fools of Us
by Cass R. Sunstein
Very few economists foresaw the great recession of 20082009. Why not? Economists have long assumed that human beings are rational, but behavioral findings about human fallibility have put a lot of pressure on that assumption. People tend to be overconfident; they display unrealistic optimism; they often deal poorly with risks; they neglect the long term (present bias); and they dislike losses a lot more than they like equivalent gains (loss aversion). And until recent years, most economists have not had much to say about the problem of inequality, which seems to be getting worse.
There is a strong argument that within the economics profession, these problems are closely linked, and that they have had unfortunate effects on public policy. Most economists celebrate free markets, invoking the appealing idea of consumer sovereignty. If people are buying potato chips, candy, and beer, or making risky investments, thats their business; they know their own values and tastes. Outsiders, and especially those who work for the government, have no right to intervene. To be sure, things are different if someone is inflicting harms on third parties. If a company is emitting air pollution, the government can legitimately respond. But otherwise, many economists tend to believe that people should fend for themselves.
It is true that companies might try to take advantage of consumers and investors, perhaps with outright lies, perhaps with subtler forms of deception, perhaps by manipulating their emotions. But from the standpoint of standard economic thinking, thats nothing to panic about. The first line of defense is competition itselfand the markets invisible hand. Companies that lie, deceive, and manipulate people are not going to last long. The second line of defense is the law. If a company is really engaging in fraud or deception, government regulators might well get involved, and customers are likely to have a right to compensation. But for economists, competitive markets are generally trustworthy, and so the old Latin phrase retains its relevance: caveat emptor.
By emphasizing human fallibility, the group of scholars known as behavioral economists has raised a lot of doubts about this view. Their catalog of errors on the part of consumers and investors can be taken to identify a series of behavioral market failures, each of them calling for some kind of government response (such as information campaigns to promote healthy eating or graphic warnings to discourage smoking). But George Akerlof and Robert Shiller want to go far beyond behavioral economics, at least in its current form. They offer a much more general, and quite damning, account of why free markets and competition cause serious problems.
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http://www.nybooks.com/articles/archives/2015/oct/22/why-free-markets-make-fools-us/
PatrickforO
(14,570 posts)Yes they do.
And I'm tired of 'caveat emptor.' I'm tired of watching the stuff I buy go into smaller packages while the price stays the same or even goes up. I'm sick of rationed, shitty healthcare with too-high copays. I'm tired of attempts by the establishment side of both parties making mealy mouth noises about cutting 'entitlements.'
bemildred
(90,061 posts)Are we supposed to believe this buffoon just discovered that? If so, why is such a fool still considered an "expert"?
Igel
(35,296 posts)Assume that people are always irrational?
Modeling that's a bear. How? When? To what extent? All groups equally for every decision? Argh! Truly, that science just gets more and more dismal. More like a slough of despond.
"Irrational 18% of the time doesn't help," unless you know the 18%.
There are more recent models, but many have high MOEs and are experimental, relying on data on actual irrational behavior. Their predictions aren't all that reliable--the ones that are we hear about, the ones that aren't ... What's that? Eh?
The amazing thing is that economic predictions have been as accurate as they have been. A lot of the irrationality is a bias that can be filtered out late in the analysis, some of it is self-cancelling noise at a certain sample size.
I knew a Cal Tech undergrad physics major. He minored in economics and then went into a career in economics because he liked a challenge. The B.S. in physics wasn't a challenge. (He and his wife retired something like 13, 14 years later, before they hit 40, to rural Ohio, settling on a large farm that they raised a couple of cows on and a vegetable garden. The rest was just for the view and for their daughter to play in.)
bemildred
(90,061 posts)In the marketplace or anywhere else. And yet all of "free market" economic theory is built on the opposite assumption.
And people wonder why it doesn't work?
fasttense
(17,301 posts)Oh yes they are. Companies that lie, cheat, manipulate and even break the law have a competitive advantage over companies that Do Not do this. They can swindle the pay from their workers and thus charge less for their product. A company that does Not do this ends up having to charge more or get less profits. Hiring illegal immigrants and paying them less is a common scam. Companies who pay everyone equally or don't hire illegally can Not compete with crooks who hire illegally.
And since corporations can get too big to fail, or too big to jail, the crooked corporations reach those limits quickly and continue to break the law with minimal repercussions. The honest ones never make enough to be too big for anything. The honest business goes under because they can't compete with criminals while the criminal corporations prosper.
Why did anyone think otherwise? Where did this ridiculous idea that corporations that lie, cheat and steal are not going to last long? They have all the money of course they are going to take over.