Brexit – Britain is paying the price for a badly designed choice

by Richard Thaler

Financial Times
August 17, 2016

The Brexit vote has created an environment of great uncertainty for Britain, the EU and the global economy. No one can predict with any confidence what will happen for at least the next three years, but economists are in unusual agreement that if Brexit occurs it will be bad for the UK and bad for the EU.

How did we get here? One answer lies in “choice architecture”, the decision-making framework in which choices are made.

Consider the original charter of the EU. An important principle of good choice architecture is to anticipate how things might go wrong and take steps in advance to mitigate the damage. In the formation of the EU, this step did not seem to attract the attention it deserved. What will happen if a country breaks the rules but is financially unable to repay its debts? The ambiguity in this answer has been evident in the drama surrounding Greece and a possible Grexit.

Another question that appears to have been left unanswered originally is what would happen if a country wanted to leave, as the UK might wish to do. The EU resembled the Hotel California described in the Eagles song, where, “You can check out any time you like / But you can never leave”. Eventually this omission was addressed by the creation of the now famous Article 50 of the Lisbon treaty, adopted in 2009, which provides the rules for a country that wishes to secure a divorce from the EU. (It has to be said that few states have provisions for leaving a union to which they belong; the US fought its deadliest war over such an issue.)

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N. Christodoulakis, "An Economic Analysis of Conflicts With an Application to the Greek Civil War 1946-1949"

Springer, 2016

This book provides a quantitative framework for the analysis of conflict dynamics and for estimating the economic costs associated with civil wars. The author develops modified Lotka-Volterra equations to model conflict dynamics, to yield realistic representations of battle processes, and to allow us to assess prolonged conflict traps. The economic costs of civil wars are evaluated with the help of two alternative methods: Firstly, the author employs a production function to determine how the destruction of human and physical capital stocks undermines economic growth in the medium term. Secondly, he develops a synthetic control approach, where the cost is obtained as the divergence of actual economic activity from a hypothetical path in the absence of civil war. The difference between the two approaches gives an indication of the adverse externalities impinging upon the economy in the form of institutional destruction. By using detailed time-series regarding battle casualties, local socio-economic indicators, and capital stock destruction during the Greek Civil War (1946-1949), a full-scale application of the above framework is presented and discussed.

Is Eating a Cinnamon Roll Irrational?

by Tyler Kubik

Mises Review
January 14, 2015

The literature on market imperfection and market failure is voluminous, ever-growing, and filled with Nobel laureates. Identify a new source or instance of market “failure,” and you’re likely to win a Nobel Prize, or so it seems.

Phishing for Phools: The Economics of Manipulation and Deception, by Nobel Laureates George A. Akerlof and Robert J. Shiller, presents the thesis that we are overly confident in unregulated markets and that entrepreneurs accrue profit by preying on hapless consumers, exploiting “our weakness in knowing what we really want” through the market’s tendency “to spawn manipulation and deception.” Mavens of manipulation themselves, Akerlof and Shiller claim many, if not most people — especially the poor — are irrationally exuberant and are induced into buying things they really do not want. How do they know what the consumer really wants, one might ask? The answer is that anything the authors would not do themselves is ipso facto not in the best interest of the consumer. In fact, it is something that “no one could possibly want.”

We’ll Decide What’s Best For You

Their opening chapter is an exercise in convoluted methodology. In it, Akerlof and Shiller obliterate any distinction between adroit entrepreneurship/marketing and deception/fraud. The most fundamental problem, however, is that Akerlof and Shiller think that what people really want is what is (objectively) good for them. They refuse to recognize that even if consumers were aware of the costs of eating Cinnabon — their bête noire in the opening chapter — and consuming a high calorie meal devoid of nutrients, they still might choose to eat Cinnabon. In their paternalist fervor, they cannot fathom that some people, in some places, at some times, might be willing to make such a trade off.

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How Facebook Makes Us Dumber

by Cass Sunstein

Bloomberg
January 8, 2015

Why does misinformation spread so quickly on the social media? Why doesn’t it get corrected? When the truth is so easy to find, why do people accept falsehoods?

A new study focusing on Facebook users provides strong evidence that the explanation is confirmation bias: people’s tendency to seek out information that confirms their beliefs, and to ignore contrary information.

Confirmation bias turns out to play a pivotal role in the creation of online echo chambers. This finding bears on a wide range of issues, including the current presidential campaign, the acceptance of conspiracy theories and competing positions in international disputes.

The new study, led by Michela Del Vicario of Italy’s Laboratory of Computational Social Science, explores the behavior of Facebook users from 2010 to 2014. One of the study’s goals was to test a question that continues to be sharply disputed: When people are online, do they encounter opposing views, or do they create the virtual equivalent of gated communities?

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Read the study (PDF)