Wednesday, December 31, 2008

Are voters rationally irrational?

When we met next day, Jim wanted to talk more about Bryan Caplan’s book, “The Myth of the Rational Voter” (previous discussion here and here). He asked: “How original is Caplan’s stuff about voter irrationality?” I suggested that Caplan’s main contribution was in providing evidence that voters have systematically biased beliefs about economics. I mentioned that Caplan’s Cato paper provides a good summary of the U.S. evidence an anti-market bias; an anti-foreign bias; a make-work bias; and a pessimistic bias.

Jim seemed about to say something when I mentioned pessimistic bias, but he didn’t. So I continued by suggesting that Caplan also seemed to be highly original in suggesting voters were susceptible to “rational irrationality”- an almost religious attachment to false beliefs - rather than to “rational ignorance”, or lack of understanding. I mentioned that I didn’t think that “rational irrationality” would provide as good an explanation of voter behaviour as some less extreme concepts such as “bounded rationality”, used by Douglass North, and “DIY economics” – as suggested by David Henderson, former chief economist of the OECD.

Jim commented: “These biases in thinking that Caplan is talking about seem to be like flat earth theories. A few people might retain a kind of religious attachment to the idea that the earth is flat, but most people don’t have too much trouble accepting what they are taught in school about the shape of the earth and how it rotates and revolves. I don’t think voters are not as pig headed as Caplan seems to think they are. The “bounded rationality” idea sounds more interesting. Is this the same as the concept that Simon fellow used to talk about in organisational decision-making ?”

I wondered where Jim had come across Herbert Simon’s ideas as I also tried to remember what Douglass North had written about bounded rationality. I was able to remember that North had explained that ideologies present simplified models of how the world works and that he thought voters had a lot of problems in coming to terms with complex issues. When I refreshed my memory later, I found this:
"The atypical informed constituent may indeed know his or her own interest in making choices about familiar local repeated problems, but even the informed constituent is going to be at sea in making choices about the complex non-repetitive problems of an interdependent political and economic world" (“Institutions, Institutional Change and Economic Performance”, 1990, p51).

“So, what about DIY economics?”, Jim asked. “Is this Henderson character saying that we should just leave economic policy to the experts?” My response was to the effect that I thought Henderson would support efforts to help people who have no formal training in economics to understand economic policy issues. The DIY economics he talks about involves intuitive ideas that can be described as “pre-economic” in that they owe little or nothing to ideas that have ever had wide acceptance among economists. And they cannot be just viewed as fallacies that are popular among ordinary voters because they are held with equal conviction and expressed in much the same language by many political and business leaders. (David Henderson’s paper can be found here.)

Jim said: “That makes sense to me, but I’ve been thinking some more about Caplan’s concept of rational irrationality. It reminds me of the meeting I attended when I was a young man where I learned the meaning of “oxymoron”. The meeting was at a government department. Just as I was making a point that seemed important at the time, the old coot who was sitting next to the person chairing the meeting turned to him and said ‘That is an oxymoron’. I can’t remember what I had said to prompt that remark, but if he had not been so old I might have hit him. As it happened I responded by saying that he wasn’t so clever either. Some other people at the meeting thought the incident was funny, but the old coot didn’t seem particularly amused.”

Tuesday, December 30, 2008

How good is Bert Kelly's bull story?

When I next saw Jim I had to tell him that he should have been more kind to Bryan Caplan, the author of “The Myth of the Rational Voter”. You might recall that Jim implied that Caplan did not recognise that economists bear some responsibility for the failure of many voters to understand complex economic issues like the benefits of free trade.

When I read to Jim the passage in Bryan Caplan’s book which suggests that modern economists “should try to channel the spirit of the original one-handed economist, Frederic Bastiat” (p. 200), he looked at me as though I had just proposed that spiritualism might help promote public understanding of complex economic issues. I quickly explained that what Caplan had in mind was that modern economists should become more like Bastiat, a French economist who lived in the first half of the 19th century, who was famous for his witty exposure of the fallacies involved in the views of trade protectionists.

I mentioned that Frederic Bastiat had made the same point as Jim, in our last conversation, about the gains from specialisation and trade being the same at a national level as at an individual level. Bastiat suggested to trade protectionists, who claimed to be practical men, that they should set aside their theory that it is better to make things oneself and look around them and observe whether the farmer makes his own clothes, whether the tailor raises the wheat that he consumes, whether their housekeepers bake bread at home when they can buy it more cheaply at the bakery etc. He then made the point: “It is not you, therefore, who are the practical men, for you could not point to a single person on the face of the earth who acts according to your principle” (“Economic Sophisms”, 1996 edition, p 83).

“That isn’t bad”, Jim said. Then he smiled as he remembered something: “Is this Bastiat the bloke who told the story about the manufacturers of candles who petitioned the government to pass laws to prevent unfair competition from the sun?” I agreed that was one of his famous parables.

Jim said: “Look, that Bastiat fellow was probably a genius, but I bet he didn’t write anything about infant industry assistance that was as good as this piece by Bert Kelly”. Jim pulled a grubby piece of paper out of his pocket and handed it to me to read. It was a copy of page 102 from Bert’s book, “Economics Made Easy”. Jim had drawn a big circle around the following paragraphs:

“When city people go to the Show they may see the beef classes being judged, if they are lucky. They are rightly impressed by the sleek appearance of the young bulls and they may think what wonderful converters of grass to flesh they are.
It is only when they visit the studs and see the way that these bulls are foster-mothered that they realize they have been had. At ‘feeding’ time the young bull gets all excited as he sees his cow approaching. You think it is love calling. She is put in the bail, and what does the young bull do then? No, you are wrong, he doesn’t. Down on his knees he goes to get at the udder of the poor skinny cow that is half his size, and he sucks away greedily.”

Jim said: “Don’t you think that those bulls are a bit like Australia’s car industry. If it is internationally competitive, as the government keeps saying, then why don’t they wean it off assistance from taxpayers?”

Sunday, December 14, 2008

Does voter rationality have to be a myth?

I think it was probably the sheep on the cover of the book that caught Jim’s eye. When he saw my copy of Bryan Caplan’s book, “The Myth of the Rational Voter”, Jim picked it up and asked me what it was about.

I explained that Bryan Caplan considers that voters tend to have irrational views when it comes to issues like free trade. He argues that this irrationality is a predictable response to the incentives associated with voting. Since there is a miniscule probability that the vote of any individual will be decisive in changing the result of an election, people can vote according to their feelings about how the world works – however wrong those feelings might be – safe in the knowledge that their individual vote is not likely to determine the outcome. Caplan reckons that when people vote they don’t weigh up the options the way they do when they make decisions that they expect to affect outcomes. They talk about their voting options as if they were ordering dinner from a menu, but their actions suggest that they expect to be served the same meal no matter what they “order”.

Jim did not seem overly impressed with Caplan’s views. He said: “That is what I would expect from a typical economist. You blame voters for being irrational about issues like trade protectionism, but most of you do a lousy job of explaining the benefits of trade.'

So I asked Jim how he would explain the benefits of trade. Without even pausing to think, he said: “Well, I would tell them what my father told me. Dad was a successful wheat-sheep farmer, but he was also a really good mechanic and a great gardener as well. One day, when I was still a kid, I asked him why he paid the local garage to service the family car when he could do it himself and why he didn’t grow all the vegetables we needed at home. I mentioned that Jack Smith up the road serviced his car, grew his own vegetables, milked a cow and kept chooks. Dad asked me whether I thought the Smiths were prosperous and successful farmers. I had to admit that I thought they always seemed to be struggling to get by. Dad explained that when you try to be self-sufficient and spend a lot of your time doing things like servicing your car, gardening, milking cows and feeding chooks instead of focusing on your strengths, you inevitably end up just eking out a subsistence living.
The same is true for the whole country. We are better off if we specialize in producing the things we can produce at relatively low cost and trading with the rest of the world to get the things that are costly to produce domestically.”

I was quite impressed by Jim’s explanation. I suppose that is why I forgot that he wasn’t an economist. I said: “A lot of people seem to have a good intuitive grasp of opportunity cost and the benefits of specialization from their own personal experience. It shouldn’t be too hard to get them to understand the benefits of free trade.”

“What is opportunity cost?” Jim asked. But before I could explain, he said: “Don’t bother trying to explain. I’ve got better things to do with my time that to listen to you trying to explain esoteric economic concepts. You economists should learn to talk the same language as the rest of us.”

After I had written this I was wondering where Jim had picked up his views about the benefits of international trade. It is easy enough to grasp of the advantages of specialization in running a business, but it is not intuitively obvious that this reasoning is relevant at an economy-wide level. When I rang him to inquire, Jim told me that he had learnt all he knew about economics from Bert Kelly. He said: “Bert Kelly was a great economist because he knew how to explain things so that they made sense.”
I didn’t bother telling Jim that C. R. (Bert) Kelly did not have any formal economics training. Bert was a politician and newspaper columnist who made a huge contribution to economic reform in Australia by explaining economic issues in a way that could readily be understood by people without formal training in economics. Bert died in 1997 and is still sadly missed.

Sunday, December 7, 2008

Is religion opposed to liberty?

I cannot remember exactly how Jim and I came to be talking about this question. I started to take notice when Jim said: “I’m just about fed up with religious leaders appealing for greater religious freedom. They argue that people should be allowed to follow their consciences when governments are impinging on the rights of their members to practice their religion, but they don’t really believe in allowing people to follow their consciences. When they get the opportunity to exert some political influence themselves, they use it to impose their moral views so that people are deprived of the option of acting in accordance with their consciences.”

My response was that some religious leaders who appeal for greater religious freedom do seem to have a consistent view about the importance of individual conscience. Jim looked interested, so I told him that I had recently read a book on ethics by the Dalai Lama. I was pleasantly surprised that the Dalai Lama seemed to be espousing the primacy of conscience, despite coming from a tradition in which there has been a very close relationship between church and state. He argues that ethical discipline is something that we adopt voluntarily on the basis of full recognition of its benefits, rather than something that can be imposed upon us. He says that the most important factor in determining the ethical character of our acts is our mental and emotional state at the moment of action. (The book’s title is “Ancient Wisdom, Modern World”, published in 1999. The relevant discussion is on pages 153 – 157.)

Jim said: “That’s all very well, but the leaders of major religions in this country don’t yet seem to have learned how to distinguish between personal morality and public policy. They seem to think that religious freedom entitles them to get governments to force people to comply with their religion’s view of what is good.”

I replied that it did not worry me too much these days what religious leaders might try to do in Australia because they have lost much of their moral authority, even with regard to members of their own religions. In any case, voters seem to have become wary of giving much power to politicians who are known to have close links with prominent religious leaders.

Jim responded: “Yeah, but don’t you think it is about time these religious leaders learned to ‘Render unto Caesar what is Caesar’s, and unto God what is God’s’?”

I said that I thought that Christian religious leaders knew a lot more about this than we did - and they would probably be aware that these ideas had been influential in leading to the separation of church and state and the evolution of religious freedom. I said that it might be nice to think that we could persuade religious leaders that they should refrain from creating dissention by trying to get governments to impose their moral views on others and that they should focus their political efforts on encouraging people with different beliefs to live in peace with each other. I suggested, however, that we just have to accept that these people have found some way that they think is respectable to defend religious freedom without acknowledging the inviolability of conscience.

“Bulls**t!”, Jim said. “The inviolability of the human conscience is at the heart of Christianity. Those who would never accept that the state has a right to over-ride their own consciences are acting contrary to the golden rule when they attempt to use the powers of the state to over-ride the consciences of others. Religious leaders should recognize the inviolability of conscience and help protect liberty rather than threaten it.”

When I asked Jim where these ideas came from he said that he had thought this way since childhood. He did suggest, however, that it probably wouldn’t do me any harm to read the views of Fr. Robert Sirico on the question of whether religion has to be a threat to liberty (here).

Sunday, November 30, 2008

When will they stop banning things?

Jim rang me yesterday and said he had been reading my blog and wanted to talk to me about something. So we arranged to meet. After we bought our drinks and sat down, a young woman with green hair walked in and sat at a nearby table with a scruffy looking young man.

The young woman obviously made a big impression on Jim. “It’s just not natural”, he said. I asked him what he was talking about. “Green hair”, he said quite loudly. “Humans aren’t meant to have green hair”. I told him to keep his voice down to avoid causing offence. “What about the offence she is causing me?” he said. “It’s bad enough when young women make themselves look unattractive with rings in their noses and tattoos everywhere, but green hair is beyond the pale.” I suggested that it was just a matter of taste and offered to swap seats so that Jim would not have to look at the green hair.

After Jim had settled down he said: “You libertarians don’t like banning things do you.” As I agreed he added: “But I get the impression that you might not be too keen on legalization of drugs.” I responded that I didn’t really have much to say about drugs beyond making the general point that people should be allowed to live as they please as long as they don’t interfere with the rights of others. I mentioned that I thought people should even be allowed to have green hair if that is what they want.

I thought that Jim might have been able to manage half a smile, but there was no sign. He said: “I thought that the reason that I can’t find much on your blog in favour of legalization of drugs might have something to do with concerns about the effects legalization might have on vulnerable people.” I acknowledged that I was concerned about children. I admitted that when my children were in their teen years I was in favour of prohibition because I thought this would make it more difficult for teenagers to obtain drugs.

Jim said: “So, now your own kids have grown up you have changed your mind? I explained that I now think that, like a lot of parents, I had been allowing my desire to protect my children from harm to get in the way of a rational assessment of how they could best be protected. I now think that the risk of drugs falling into the hands of children can be better managed if drugs are legalized because that will make it easier to identify suppliers.

Jim then asked: “Aren’t you also concerned about vulnerable adults who experiment with drugs and end up addicted?” I suggested that prohibition seems designed to make life hell for people who become addicted because it raises the price of drugs, which induces a lot of addicts to do desperate things to finance their habit. After a moment of thought, Jim said: “But if the price of drugs goes down more people will experiment because the costs associated with becoming addicted will be lower.”

I was surprised that Jim seemed to know about the rational addiction hypothesis. However, he was beginning to annoy me so I decided that the time had come to give him a blast about the disadvantages of making protection of vulnerable people the be all and end all of everything. I suggested that we should be encouraging vulnerable people to learn to be less vulnerable because if we keep going down the path of banning things to protect everyone who is vulnerable to anything, we are going to find that just about everyone is vulnerable to something. I told him that as a businessman he should be aware of the pressure for governments to ban and regulate a lot more things including mixed alcoholic drinks, tobacco, gambling, pornography, vitamin supplements, fatty food, and high calorie food and drinks. I said he should be particularly concerned about pressure for governments to do more to protect people who are vulnerable to advertising and the debtaholics who can’t resist spending up to their credit card limits.

I made the point that once vulnerable people have been protected from all these things we will probably discover more vulnerabilities and there will be pressure for more things to be banned. One day we will wake up and discover that we have lost a lot of our capacity to make decisions affecting our own well-being. I then started to talk about the blog post on whether push-pin is addictive, in which I discuss the importance our capacity to make strategic decisions affecting our own individual well-being.

At that point Jim interrupted: “Yeah, the way we are heading the whole society will end up being run like a nunnery." I nearly fell through my chair. Jim must have seen my surprise. He added: “I hope you didn’t think I would be the kind of person who would ban green hair and everything else I didn’t like!”

Friday, November 28, 2008

What do we mean by market efficiency?

I ran into Jim again yesterday. Actually it would be more true to say that he ambushed me. I turned a corner and there he was. After the way he treated me in our first discussion (reported here) I was not particularly looking forward to talking to him again.

Jim said: “I enjoyed our last discussion”. I nodded agreement as I wondered why I wasn’t shaking my head the other way. Meanwhile, Jim was saying: “I heard that you wrote up our last discussion on your blog”. I must have looked a bit concerned because Jim said: “That’s OK. I don’t mind helping you with your blog, as long as you are accurate in reporting what I say and don’t make me look stupid”. I told Jim that might not be easy, but I could tell from the way he was looking that he obviously didn’t think it would be a joking matter if I made him look stupid - even though I wasn’t using his correct name on my blog. So I added that I was not going to report his expletives. Jim said that was OK. He claimed that he didn’t swear in any case, but if I wanted to I could use some bleeps now and then just to add emphasis. He said: “I won’t mind if you use a bit of poetic licence now and then, as long as you don’t make me look stupid”.

After he had bought me a beer Jim said that wanted to ask me something else. He said: “You believe that free markets are perfect don’t you?” I responded that I wasn’t quite sure what he was getting at. I told him that in my view all markets are imperfect, but when governments try to regulate them they often make matters worse. Jim said: “No, that’s not what I mean. I’m talking about capital markets – share prices and bond prices. Do you think those markets are close to perfect?”

At that point I explained to Jim that what he was talking about was the efficient markets hypothesis that prices always reflect all relevant information. I said it seemed to me that investors have the strongest possible incentive to make informed decisions because their personal wealth is at stake – and equity prices reflect the information on which investors base their decisions.

Jim said: “I’m not sure I understand. Are you saying that individual investors all have the same expectations about future prospects of particular firms?” I acknowledged that individuals have a lot of different views about the future. I suggested that even though a lot of investors think they can beat the market, the market averages out these different expectations, so those who do better than the market tend to be balanced by those who do worse than the market.

Jim nodded for me to continue. I explained that people who invest in funds with low management fees, whose weightings of individual shares in their portfolio are similar to a share market index, often do better than those who pay high management fees to funds that undertake a lot of research.

Jim said: “I suppose if someone has just lost half their capital on the share market they will not feel so bad if the value of their portfolio has fallen in proportion to the index and they have been paying low management fees.” I agreed.

Then Jim asked: “What do you think of Warren Buffett’s view that it is possible to beat the market because people are often irrational – they let greed take over and then they panic when fear takes over”. I said that I like Buffett’s approach to investing, but I wasn’t too keen on his politics.

Jim ignored the latter remark and asked: “So what advice do you think the Oracle of Omaha would give to novice investors about where to put their money?” I said that I imagined that he would tell them to put their money into Berkshire Hathaway. Jim replied: “Well, you don’t know everything! Buffett says that novice investors should stick with low-cost index funds.”

I checked to see whether or not Jim had just made this up. Warren Buffett actually gave this advice in April this year (reported here).

Tuesday, November 25, 2008

Can budget deficits cure the debt problem?

When I first met Jim (that is not his real name) a few days ago he seemed like a fairly harmless businessman. But when he heard that I was an economist, he said that there was something he wanted to ask me.

I had the feeling that I would not like Jim’s question, so I mentioned that I had retired. Jim pretended not to hear. He said: “The current financial crisis was caused by too much debt wasn’t it? Before I could respond, he had added: “So, tell me how the world’s governments are going to solve the problem by having bigger budget deficits and more debt?”

I tried to get out of answering by saying that I didn’t know much about short-term macro-economic management. That response didn’t satisfy Jim. He said: “Come on, you must have some idea about what governments are trying to achieve.”

I started my explanation by going back to the cause of the problem. Making my explanation as simple as possible, I said that the problem had arisen basically because lending institutions in the U.S. thought that it was safe to lend a high proportion of the value of houses because they felt that house prices would continue to rise. This meant that when the bubble burst and house prices fell, a lot of borrowers had debts that were greater than the value of their houses. So defaults started to increase and that created big problems for banks.

At that point Jim interrupted. “I know all that”, he said, “what I don’t understand is why the governments didn’t just let the rotten banks fail”. I explained that the financial system had become like a house of cards, built on the expectation that some financial institutions were too big to fail. When the U.S. government let one bank collapse, this led to a crisis of confidence in the whole financial system.

Jim looked skeptical. “You still haven’t answered my question”, he said. “How can governments solve the problem by creating budget deficits? Doesn’t this just make the problem worse for countries that have been living beyond their means. Shouldn’t they be living within their means rather than going further into debt?”

I told Jim that I thought that was a good point, but the problem was how to get from where we are now to where we want to be. I suggested that the idea behind what governments were attempting to do was not stupid because they were trying to restore confidence and to avoid increased unemployment. I said that if you look at an economy and see a lot of people becoming unemployed and a lot of spare capacity emerging, this suggests that consumer demand is too low, not too high. I also explained that governments don’t actually have to go into debt to fund their deficits. They have the power to create the additional money that they spend.

Jim then looked alarmed. “Do you mean that they might use the printing presses like Robert Mugabe does? So we could end up with hyperinflation like in Zimbabwe?”

I tried to calm Jim down by telling him that at the moment a lot of economists – those who know about these things - seem to be more worried about deflation than inflation. They are worried that we might get stuck in a situation like that in Japan in the 1990s, with falling prices and economic stagnation. I said that the policy aim was to give economies just enough of a boost to restore economic growth without inflation.

Jim seemed to understand. He said: “So what these economists are trying to do is a bit like getting a satellite into the right orbit – they just want to give the economy the right amount of thrust?” I acknowledged that the policy problem could be a bit like that.

Jim smiled before he added: “Yeah, well I reckon that’s the problem with you economists. You think you are f***ing rocket scientists!”

Saturday, November 22, 2008

What is the rate of economic growth implied by current equity prices?

There is a standard joke among economists that equity markets have predicted about 10 of the last 5 recessions. As the joke acknowledges, equity prices embody predictions of future earnings and this implies that they also embody predictions of economic growth rates.

So, what is the rate of economic growth implied by current equity prices?

A good way to think about this is to consider why there is a difference between the current average dividend yield (annual dividends per share as a percentage of the current share price) and the real bond yield (bond yield minus expected inflation rate). This difference is required to cover two elements: the equity risk premium and the expected future rate of growth in dividends. If it is reasonable to assume that the expected rate of growth in dividends will be equal to the rate of economic growth over the longer term, the market’s expected rate of economic growth is given by:

y = (r – p) + x – d

where: y = expected real GDP growth rate;
(r – p) = real long term bond yield;
x = the equity risk premium; and
d = dividend yield.

So, it is a simple matter to calculate y if we know r, p, x and d. Unfortunately, however, there are a couple of thorny issues that need to be considered regarding appropriate numbers to use for the real bond yield and the equity risk premium.

When I last looked at this question (about five years ago) I decided that it would be more appropriate to use a long term average real bond yield than a current real bond yield. If the current bond yield is used, the results seem to become unduly sensitive to current monetary policy settings. In my calculations for Australia I used a real bond yield of 4.5 percent.

What rate of equity risk premium is appropriate? The equity risk premium is one of the few topics for which it could actually be reasonable to claim that if you laid all economists end to end, they still would not reach a conclusion. To cut a long story very short, I used the average equity risk premium implied by the relationship between GDP growth rates, average real bond yields and average dividend yields in Australia over the previous 20 years. This implied an equity risk premium of about 3.3 percent. (I am prepared to make available an unpublished paper discussing the methodology to anyone requesting it by email.)

When I did the arithmetic with the dividend yield prevailing in August 2003 (4.3 percent), I came to the conclusion that the expected real GDP growth rate for Australia implied by then current equity prices was 3.5 percent per annum. Since this was only marginally above the average growth rate for the previous 20 years, it did not seem to me to be unduly optimistic.

When I do this arithmetic now, with the current average dividend yield (6.6 percent on 18 November, 2008), it suggests that the expected real GDP growth rate for Australia implied by current equity prices is 1.2 percent per annum. That seems to me to imply that current share prices in Australia embody an unduly pessimistic view of longer term economic growth prospects.

Health warning:
There is a rumour going around among former work colleagues that when I was living off my earnings as an economic consultant I was heard to say, more than once, that free economic advice was not worth much. That rumour is true, but I have since changed my opinion. There is no truth at all in the rumour that I have been heard expressing the view that there are three kinds of economists: those who can count and those who can’t. I tried to say that once, but I ended up saying that I didn’t know whether I should be considered to be in the first or second category.

Tuesday, November 18, 2008

Does the free market corrode moral character?

The Templeton Foundation recently asked 13 leading scholars and public figures to provide their answers to this question (here).

It seems to me that the main points in the answers can be summarised (very briefly) as follows:
· Free markets are inherently good because they reflect personal choices.
· Other systems, e.g. provision of goods via political processes, tend to result in worse moral outcomes because they lack competitive disciplines and are more prone to corruption.
· The outcomes of market processes reflect (and perhaps amplify) the values that people hold. Moral decadence is not the only possible outcome.
· Participation in mutually beneficial exchange encourages trustworthy behaviour and increased trust. Markets tend to reward diligence, good judgement and prudence.
· Market incentives and competitive pressures sometimes encourage people to act imprudently and to break moral codes.
· Markets tend to undermine some traditional values.
· Markets widen our circle of empathy. As a result of globalisation people in different parts the world come to view each other as business partners and friends.

Some of these points are more valid than others, but all seem familiar. In a contribution on his blog, however, Will Wilkinson sketched out what seems to me to be a new way of thinking about some of these issues (here). My interpretation of his argument is that shifts in the moral norms that are required as the means to achieve moral ends (longevity, health, wealth, happiness etc) are inevitable as the market system finds ways to achieve these ends more effectively. The process is analogous to technological innovation, except what is involved is a shift in the socio-economic structure that is the means of achieving moral ends, rather than a change in technology. Market processes corrode traditional moral norms, but this is an integral part of moral progress.

Loyalty could be an example of a traditional norm that has become less valued in many contexts. There was a time when tribal loyalty was of the utmost importance to the survival of kith and kin, but this has become irrelevant in modern societies. With increased mobility, loyalty to particular communities and employers is probably not as important as it once was. Greater value may be placed on such characteristics as emotional intelligence or ability to adapt to different social and work environments.

However, it seems to me that the corrosion of traditional moral norms by markets cannot always be viewed as benign. For example, I doubt whether anyone ever benefits from allowing modes of thought and action characteristic of the market (e.g. strict reciprocity) to contaminate their most intimate relationships. As Jerry Muller has shown, concerns that market norms might permeate all human behaviour have been a common cause of concern about free markets over the last few centuries (previously discussed here).

* * *

In any case, why should every real or imagined tendency toward undesirable corrosion of moral character be attributed to free markets? The obvious point that many people do not seem to recognise is that we do not have free markets. With regard to the current financial crisis, can the imprudent behaviour of major lending institutions be attributed to free markets when there has been a long history of bailouts of financial firms whose failure could possibly have threatened confidence in the financial system? Can the short-termism associated with senior executive remuneration packages be attributed to free markets without considering the effects of tax considerations on the way these packages have been structured?

Tuesday, November 11, 2008

Is our inner nature good?

Abraham Maslow suggested that humans have an inner nature or core which is good. According to Maslow this inner core is “potentiality, but not final actualization”. He argued that in principle our inner core can easily self-actualize, but this rarely happens in practice due to the many human diminution forces including fear of self-actualization and the limiting belief in society that human nature is evil (“Toward a Psychology of Being”, 1968, chapter 14).

The view that humans have inherent potentialities that are good has a long history. For example, Aristotle argued that humans have inherent potentialities that it is in their nature to develop. He suggests, however, that for most people the virtues remain undeveloped unless they are actively cultivated:

“Now some think that we are made good by nature, others by habituation, others by teaching. Nature's part evidently does not depend on us, but as a result of some divine causes is present in those who are truly fortunate; while argument and teaching, we may suspect, are not powerful with all men, but the soul of the student must first have been cultivated by means of habits for noble joy and noble hatred, like earth which is to nourish the seed” (“Nicomachean Ethics”, Book x: 9).

J.S. Mill made it clear that he didn’t think there was more than a mere germ of good in human nature:

“Allowing everything to be an instinct which anybody has ever asserted to be one, it remains true that nearly every respectable attribute of humanity is the result not of instinct, but of a victory over instinct; and that there is hardly anything valuable in the natural man except capacities - a whole world of possibilities, all of them dependent upon eminently artificial discipline for being realised” (“On Nature”, 1874).

Over a century before, David Hume presented a much more positive view of the relationship between morality and the inner nature of humans:

“Take any action allowed to be vicious: Wilful murder, for instance. Examine it in all lights, and see if you can find that matter of fact, or real existence, which you call vice. In which-ever way you take it, you find only certain passions, motives, volitions and thoughts. There is no other matter of fact in the case. The vice entirely escapes you, as long as you consider the object. You never can find it, till you turn your reflection into your own breast, and find a sentiment of disapprobation, which arises in you, towards this action. Here is a matter of fact; but it is the object of feeling, not of reason. It lies in yourself, not in the object. So that when you pronounce any action or character to be vicious, you mean nothing, but that from the constitution of your nature you have a feeling or sentiment of blame from the contemplation of it”. (“A Treatise of Human Nature”, 1739, III, I, i).

Hume’s view of the matter has received a considerable amount of support in recent years from psychological research (e.g. observing affective reactions to stories involving harmless taboo violations even though people had difficulty defending their moral judgments), neuroscientific evidence of emotional involvement in moral judgments, and studies that suggest that non-human primates and human have some similar moral instincts.

This evidence supports the social intuitionist view of Jonathan Haidt and Fredrik Bjorklund that moral beliefs and motivations come from a small set of intuitions that evolution has prepared the human brain to develop and that these intuitions then enable and constrain the social construction of virtues and values. This means that children have a preparedness to acquire certain kinds of moral knowledge and a resistance to acquiring other kinds (here).

Our instinctive morals don’t necessarily provide us with good guidance about how to behave towards strangers in the modern world because they evolved to protect self, kin and clan rather than to enable us to obtain the benefits of specialization and trade. I have previously suggested, following Hayek’s view, that our instinctive morals often cause people to argue for government intervention that gets in the way of the mutually beneficial exchanges among strangers that are necessary for human flourishing (here).

Nevertheless, Mill went much too far in asserting that nearly every respectable attribute of humanity is the result of victory over instinct. It seems to me that Maslow was much closer to the truth in asserting that the inner nature of humans is good.

Monday, November 10, 2008

Is there a positive intention behind every behaviour?

I hope that by the time I finish writing this piece I will have made up my mind whether I think there is a positive intention behind every behaviour. I can accept that the ultimate end of human action is nearly always the satisfaction of some desire of the acting person, but it seems to me that lurking behind some behaviours – for example, some self-destructive behaviours – there is probably a physiological problem of some kind rather than a positive intention.

Before going further I should acknowledge that the intention of NLP practitioners in suggesting that there is a positive intention behind every behaviour is to get people to “try on” this proposition to see whether it is a helpful way of thinking and perceiving. If a person can find a positive intention behind some unwanted behaviour (e.g. a phobia or an addiction) this might set them free to resolve the problem that they are experiencing.

Robert Dilts argues that the proposition that there is a positive intention behind every behaviour is an epistemological presupposition (here). What he means by this is that it has an epistemological status like that of the fundamental concepts of Euclidian geometry – it can’t be proved or disproved. He demonstrates that it is an implication of two fundamental epistemological presuppositions: “the map is not the territory” (human perceptions of reality are not reality); and “life and mind are systemic processes” (they are based on self-organizing principles and naturally seek optimal states of balance or homeostasis. These presuppositions imply that:
“People make the best choices available to them given the possibilities and capabilities that they perceive to be accessible within their model of the world. Any behavior no matter how evil, crazy or bizarre it seems is the best choice available to that person at that point in time” (here).

I have no problem in accepting Dilts’ interpretation of the idea that there is “a positive intention behind every behaviour”. It seems to allow that a person could be making the best choices available even if they display bizarre behaviour that is ultimately attributable to physiological rather psychological causes. An example that comes to mind is Antonio Damasio’s discussion of Phineas Gage, who suffered an horrific brain injury in 1848. Prior to this injury, Gage had a strong sense of personal and social responsibility, but afterwards he no longer showed respect for social convention or concern about his own future (“Descartes Error”, 1994: 10 – 12).

It seems to me that there is a lot to be said for considering what lies behind choices that result in unwanted behaviours. It makes sense that the possibilities and capabilities that people perceive to be accessible are often distorted by hidden frames of meaning about themselves, their personal powers, their relationships with others, time (their past performance and expectations) or about the way the world works.

When I began writing this piece I thought I might end up considering the question of whether the inner nature or core of humans is good. By following Dilts’ approach I avoided this, even though I think our answers to this question are an important component of the models of the world that we carry around with us. I will consider different views on this question in my next post.

Saturday, November 1, 2008

Should the virtues be revered?

When people are conscious that they are doing good they sometimes feel that they are serving something larger than themselves. It has been suggested that this feeling of elevation is necessary to have a meaningful life. For example, Martin Seligman defines a “meaningful life” as “using your signature strengths and virtues in the service of something much larger than you are” (“Authentic Happiness”, 2002: 263).

Such feelings of elevation do not always have to be present for people to behave morally. As Lynn Stout has pointed out, civilized life in urban societies depends to a large extent on passive altruism – people do not generally steal, even when there is a very low probability of being caught (‘Taking conscience seriously’, in P Zak (ed), “Moral Markets”, 2008: 157). We feel elevated or inspired only when doing good involves some effort or sacrifice.

In the final chapter of his book, Seligman speculates that human history is a process that is heading ultimately towards “nothing less than omniscience, omnipotence and goodness”. He suggests that the best we can do as individuals is to be a small part of furthering this progress: “this is the door through which meaning that transcends us can enter our lives” (260).

However, it seems to me that issues relating to historicism are more relevant to people whose aim in life is to be on the winning team – history’s hastening agents – than to those who want to live a meaningful life. I find it hard to see how it could be elevating to choose to do good just in order to be on the winning team.

I think it would be better to view the impulse to serve a good purpose in challenging circumstances as the door through which meaning that transcends us can enter our lives. Seligman discusses evidence earlier in his book (chapter 8) which suggests that the concept of goodness is ubiquitous rather than relativistic. We all tend to have similar views about what constitutes goodness despite differences in our individual tastes, social conventions and religious beliefs. Six virtues are endorsed by almost all religious and philosophical traditions: wisdom and knowledge, courage, love and humanity, justice, temperance, and spirituality and transcendence.

Is it possible for meaning that transcends us to enter our lives if we do not believe that the virtues are the result of divine intervention? I don’t see why not. We can view the expression of goodness as a potential of all humans while remaining agnostic about the source of this potential. The expression of goodness may be viewed as a natural part of what it means to be human. The actualization of this potential is a transcending experience for each individual because it requires us to move beyond the consideration of personal pleasure and pain. At the same time, because of our nature, the actualization of potential is an individual experience requiring the exercise of practical wisdom – there is a universal potential, but no universal recipe for the expression of that potential.

If we view the expression of goodness as a human quality, does this mean it cannot be revered? Why not? If we feel inspired by the virtues of others and elevated by our own efforts, surely be can permit ourselves to feel reverence for the potential for good that resides within every one of us.

William Wordsworth captured something of the feeling of reverence I have in mind in a poem written in 1802:

My heart leaps up when I behold
A rainbow in the sky:
So was it when my life began;
So is it now I am a man;
So be it when I shall grow old,
Or let me die!
The Child is father of the Man;
I could wish my days to be
Bound each to each by natural piety.
(Source: here)

Sunday, October 19, 2008

Does self-help enable people to live more happily?

According to the usual market tests, the self-help industry seems to be successful. People are prepared to pay substantial amounts for the goods it offers and it seems reasonable to presume that they obtain benefits that are commensurate with the amounts they pay. But some people claim that these benefits are illusory. Does the self-help industry just produce psychobabble that gives people false hope? Or, does this industry assist people to achieve lasting gains in happiness?

Although the research has not yet been done that would enable these questions to be answered in a definitive way, a recent issue of “The Journal of Happiness Studies” contains articles that discuss some relevant issues (Issue 3, 2008, here). In particular, an article by Ad Bergsma examines a sample of best-selling self-help books that have themes relating to personal growth, personal relations, coping with stress and identity. (Authors of the selected books include Gray, Goleman, Dyer, Csiksezentmihalyi and Carnegie). The books were examined to see how closely their messages fit with observed correlates of happiness derived from scientific research. The results seem encouraging. The factors that the books strongly advocate (calmness, independence, internal locus of control, intimacy, love-life and marriage, mental health, self-actualization and tolerance) are nearly all positively correlated with happiness. (The exception is independence, for which results are ambivalent.) The books also strongly recommend against aggression, which has been shown to be negatively correlated with happiness.

Bergsma also refers to research on self-help that has been undertaken by others. This research suggests that most readers of these books are not chronically unhappy. Reading self-help books seems to be part of a coping style of people who are attempting to improve themselves. There is also some evidence that reading problem-focused self-help materials can be effective in the treatment of disorders, and even have outcomes comparable to therapist administered treatments. Bergsma suggests that the books may function in a way that is similar to travel guides: “Most readers will not follow
the book page by page, but will study parts of the book and will select some travel
options they would have never heard of without the book”.

In order to be successful in enabling people to live more happily self-help books would need to encourage people to reflect on their own patterns of thinking and behaviour and to consider whether changes are necessary. That is certainly true of Martin Seligman’s book, “Authentic Happiness” (2002). Seligman suggests: “Insufficient appreciation and savoring of the good events in your past and overemphasis of the bad ones are the two culprits that undermine serenity, contentment, and satisfaction” (70). The remedies he suggests are gratitude, to amplify the savoring and appreciation of the good events gone by, and forgiveness, to loosen the power of bad events to embitter. Seligman also makes many other suggestions, including making an annual appraisal of your life’s trajectory, covering the domains that are of greatest value to you. This accounting “pins you down, leaves little room for self-deception, and tells you when to act” (82).

Some people manage to turn their lives around simply by reflecting on such things as their most positive beliefs, their role models, the things they are grateful for, their goals and their commitments. For some examples, see Let’sReflect (here).

My personal preference for self-help is a process explained by Michael Hall in his book, “Unleashed”. This involves: developing an understanding of your potential; accessing the executive levels of mind to re-construct your intentions; and actualizing your best meanings and intentions in performance. (The approach developed in Hall’s book can be sampled on his self-actualization web site, here.)

There are many different ways in which people can help themselves to live happy lives. The important point to recognise is that it is in our nature as humans to reflect upon our own lives and to seek to improve them. It seems to me that in developing that skill most of us can learn a lot from “travel guides” written by qualified professionals.

Does more regulation provide the answer to greed?

An article by Ian Harper which discusses this subject was published in the Australian Financial Review of October 18-19. I have reproduced the article below (with the author's permission) because I believe it deserves to be widely read.

There’s a poignant moment recorded in the New Testament when the Jewish leaders bring a woman caught in the very act of adultery to Jesus. They point to the requirement of the Jewish Law that such a person be stoned to death and demand to know what he thinks. He famously responds that those who have never sinned should be the first to throw stones at her.

It’s all too easy to blame our present troubles on the unbridled greed of high-flying bankers and their financial accomplices. After all, like the hapless adulteress, they too have been caught red-handed. Some people might not even flinch from stoning the perpetrators if they had the option. Absent that, calling for tougher sanctions against greed and recklessness will have to do.

But as Jesus of Nazareth pointed out long ago, it’s impossible to punish sin without condemning every one of us. Who wants to say they’ve never been greedy or behaved recklessly with their own or someone else’s property? It’s one thing to identify greed and imprudence as the basis of the behaviour we decry but quite another to think it can be eliminated by decree. King Canute was wise enough to know the limits of his power over the elements, let alone basic human nature.

So do we just shrug our shoulders and splutter or sigh according to our temperament? Of course not. There will be punishment aplenty as the law slowly sifts through the ashes of this particular bonfire of the vanities. We haven’t even begun to see the class actions mounted by dispossessed shareholders let alone the retributive justice of corporate regulators. Some of the behaviour responsible for the mess we’re in will be shown to be illegal and some people will go to jail. But stupidity is not illegal, nor is making the wrong call on the future growth of house prices.

The law can only protect us from our darker selves up to a point. There is clearly a need, once the dust has settled, to review carefully and dispassionately how various financial rules and regulations failed to protect us from the worst of what we are experiencing and what might be done to avoid a repeat performance. There is a danger, however, in thinking that more and better regulation is the obvious and only answer. How are we better served by rules limiting the earnings of bank executives? Is the fact that senior bankers are paid so much more than the rest of us really at the root of our financial problems? How are we better off if people capable of earning such sums choose to do so outside of banking or outside of Australia? Surely it’s not what they earn that matters but what drives them and restrains them in the decisions they make.

Passing more laws makes little difference if the people making decisions lack the basic virtues of moral courage, prudence and self-control. If you can’t legislate against greed, you also can’t
legislate for moral courage. These virtues must be inculcated through instruction and experience.

Somewhere along the line, virtuous behaviour fell out of fashion. Rather than reaching for a
legislative response, we have to think long and hard about how to refill the wells of basic virtue in commercial life which have so evidently run dry. It’s not that there’s no scope for tightening rules and regulations. Rules play a vital role in helping us to make virtuous decisions, often by keeping temptation at bay. Incentives favouring prudence in financial decisions are entirely appropriate and may well need to be strengthened. There is much good sense in the rule applied by one large financial institution in Melbourne that being caught in the casino during work hours carries a penalty of instant dismissal.

But no set of rules can ever completely prevent imprudent decision-making. If decision-makers lack basic self-control and a well-calibrated moral compass, they will not be contained by rules or even threats of severe punishment. It was Paul of Tarsus, another New Testament figure, who lamented that the very thing he detested - the thing he knew was wrong - was the thing he found himself doing. That’s what we’re dealing with here.

Greed, like the other vices, is a perversion of something good. We actually want to encourage
people to look to their own interests and improve their material circumstances. Innovation, risktaking and entrepreneurship are good things. They make us all better off. We must strenuously avoid confusing the underlying virtues with their perversions. In our efforts to ban greed, we will inevitably overreach and obstruct the virtuous behaviour of prudent risk-taking. In our rush to rail against “obscene” incomes, we run the risk of besmirching legitimate reward for effort and the courage, commitment and fortitude that true enterprise entails.

There is no reason why an enterprise based on virtuous choices can’t make money. Equally it is far from obvious that someone who earns a very large income by community standards is ipso facto immoral. In any case, banning people from earning large salaries is no way to make them moral if they’re immoral to begin with.

Ian Harper is a Senior Consultant with Access Economics and was a member of the Wallis Committee.

Monday, October 13, 2008

Why did the rating agencies put their reputations at risk?

Is there anything less useful than AAA ratings of mortgage backed securities by S&P and Moody’s prior to 2006? The obvious answers, like “tits on a bull” or “an ashtray on a motor bike”, don’t deserve a passing grade. Tits on bulls do no harm and it is conceivable that an ashtray on a motor bike might actually be useful (see here).

I can understand some of the important elements that brought about the current financial crisis. With the benefit of hindsight it is now obvious that the U.S. Federal Reserve was allowing excessive credit expansion. A few economists – such as Roger Garrison and Steve Horwitz – are probably entitled to say “I told you so”, but most economists would have to admit that they didn’t think that low interest rates were a problem while consumer price inflation remained low.

I can also understand that government policies in the U.S. that were encouraging financial institutions to relax their lending standards would be likely to lead to an increase in defaults. That should have been obvious to anyone who didn’t come down in the last shower, but as far as I am aware few economists other than Stan Liebowitz and Theodore Day raised objections to the policies that were succeeding in lifting home ownership rates. As early as 1998, Day and Liebowitz warned that the method that government was using to increase home ownership among the poor – weakening underwriting standards so that mortgages required virtually no down payment – would lead to problems. They wrote: “After the warm and fuzzy glow of flexible underwriting standards has worn off, we may discover that they are nothing more than standards that led to bad loans”. The quote comes from an excellent article on causes of the mortgage meltdown that Stan Liebowitz has now written for the Independent Institute (“Anatomy of a train wreck”, October 2008, here).

However, I still can’t understand why the rating agencies would risk their reputations by giving AAA rating to innovative mortgage-backed securities. Liebowitz includes some discussion of the behaviour of rating agencies in his article. He suggests that their behaviour was “shortsighted to the point of incompetence”. The rating agencies were apparently strongly influenced by evidence that default rates on the more risky lending were no higher than on standard mortgages. The problem with that approach is that they derived their evidence solely from the period at the beginning of the housing price bubble. They apparently made no attempt to think about what might happen in the event of a such things as an economy-wide rise in interest rates, fall in house prices or increase in unemployment rates. Liebowitz also mentions that government regulation that requires many financial organizations (e.g. insurance companies and money market funds) to invest in securities that are highly rated by incumbent rating agencies may tend to shield these agencies from competition and make them reluctant “to create political waves by rocking the mortgage boat”.

Perhaps I should just accept that the rating agencies behaved incompetently. But there is something disturbing about the idea that firms that presumably can only exist so long as they maintain reputations for offering a trustworthy service would allow any of the common varieties of human fallibility – such as incompetence and greed – to put those reputations at risk. If a rating agency felt that it lacked the competence to rate a particular security I would have thought that it would be prudent for it to refrain from making a rating until it acquired the necessary competence. It is hard to imagine any organisation that would have a greater incentive to behave prudently than a rating agency. Government regulatory authorities are certainly not faced with such unambiguous incentives to maintain a reputation for prudence and competence.

It seems to me that, unlike the rating agencies, I should admit my incompetence. I do not yet understand why the rating agencies would put their reputations at risk.

Steve Horwitz has made the following comment that helps to answer my question:
"One reason the agencies rated the bonds so highly is that, thanks to some changes in SEC rules, the agencies switched their audience. For decades, they rated for an audience of investors. But in recent decades, they rated for the SELLERS of the instruments, who would then "agency shop" to get the best rating they could. This gave the agencies strong incentive to rate more highly than justified."

Thursday, October 9, 2008

Does self-actualization promote greater rationality in market behaviour?

What is rational behaviour? It seems to me that rational behaviour is simply about making good choices – having the intention to make choices that we are prepared to endorse at a high level of reflection and being prepared to learn from our mistakes.

Economists often assume in their theoretical models that the world is populated by people who are a bit like Dr Spock from Star Wars. In Dan Ariely’s words: “Standard economics assumes that we ... know all the pertinent information about our decisions, that we can calculate the value of the different options we face, and that we are cognitively unhindered in weighing the ramifications of each potential choice” (“Predictably Irrational”: 239). Economists have reasons for making such assumptions in their models, but there are also good reasons why real people don’t behave like this. If we were to attempt to calculate the value of all the options every time we made a decision, the transactions costs (including time required) would be huge. Most of us have better things to do with our lives.

However, some of the evidence that Dan Ariely has presented suggests that humans often fail to make choices that would be capable of passing a much weaker test of rationality. We have predictable tendencies to make mistakes in decision-making and we often tend to make the same mistakes over and over. (I have written previously about Ariely’s book here).

While thinking about the question of whether self-actualization would help people make better choices I decided to revisit “Predictably Irrational” to see if I could find any relevant discussion. My hopes were raised when I found this: “If we all make systematic mistakes in our decisions, then why not develop new strategies, tools and methods to help us make better decisions and improve our overall well-being?” Unfortunately, the discussion that follows is mainly about what governments and employers etc could do to help us rather than about what we can do to help ourselves. However, Ariely does acknowledge that it might be possible for us to help ourselves: “Once we understand when and where we may make erroneous decisions, we can try to be more vigilant, force ourselves to think differently about these decisions, or use technology to overcome our inherent shortcomings” (244).

Why do I think it is worth thinking about whether self-actualization would promote greater rationality in market behaviour? It seems to me that people who rate highly in terms of self-actualization might be more competent in dealing with their own irrational tendencies e.g. in relation to gaps between wanting and liking (discussed here and here) and persuasion techniques used by others (including advertising agencies).

Instruments have been created to measure self-actualization (the POI or personal orientation inventory) and dimensions of personal well-being related to eudaimonia i.e. growth towards achieving the best that is within us and the exercise of practical wisdom. For example, Carol Ryff’s six-factor model of personal well-being covers self-acceptance, autonomy, personal growth, relations with others, purpose in life and environmental mastery (described here). I don’t claim to know much about measurement of such factors, but this model seems to have conceptual coherence. The six factors correspond broadly to the content matrices in Michael Hall’s matrix model (see: “Self-Actualization Psychology”, Chapter 11). (Hall’s matrix model provides a comprehensive framework for considering how the meanings that we attach to self, powers (potential), others, time and the market/environment/context relate to the beliefs, values, understandings, perceptions etc that make up our internal models of the world.)

As far as I am aware research relating to measurement of self-actualization etc. has not yet been used in behavioural economics research. It would be interesting to know whether the aspects of “practical wisdom” being measured in the self-actualization research correspond to enhanced rationality in market behaviour.

Monday, October 6, 2008

Can happiness be obtained by seeking it?

Please Note: A revised version of this post is available here.

John Stuart Mill is often quoted as an authority on the question of whether happiness can be obtained by seeking it. He wrote:

Those only are happy ... who have their minds fixed on some object other than their own happiness; on the happiness of others, on the improvement of mankind, even on some art or pursuit, followed not as a means, but as itself an ideal end. Aiming thus at something else, they find happiness by the way” (“Autobiography”, here).

How can this view that happiness cannot be obtained by seeking it be reconciled with Mill’s conviction “that happiness is the test of all rules of conduct, and the end of life”? That was no problem for J.S. Mill: “the happiness which forms the utilitarian standard of what is right in conduct, is not the agent's own happiness, but that of all concerned. As between his own happiness and that of others, utilitarianism requires him to be as strictly impartial as a disinterested and benevolent spectator” (“Utilitarianism”, here).

Not content to let that proposition rest on its dubious merits, Mill enlisted the support of a widely-esteemed authority: “In the golden rule of Jesus of Nazareth, we read the complete spirit of the ethics of utility. To do as you would be done by, and to love your neighbour as yourself, constitute the ideal perfection of utilitarian morality”. So there!

Coming back to the original question, it is actually not clear to me that J.S. was strongly of the view that happiness could not be obtained by seeking it. He regarded some pleasures as being higher than others (for my discussion of his views on pushpin and poetry see here and here) and he saw the development of “noble character” as intimately linked to the higher pleasures. At one point he seems to suggest that development of a noble character is an avenue to happiness. He writes: “... if it may be doubted whether a noble character is always the happier for its nobleness, there can be no doubt that it makes other people happier ...” (“Utilitarianism”). His personal experience is also relevant here. He reports that he helped himself to regain some measure of happiness after suffering a nervous breakdown when he was a young man by reading the poetry of William Wordsworth. He wrote:

What made Wordsworth's poems a medicine for my state of mind, was that they expressed, not mere outward beauty, but states of feeling, and of thought coloured by feeling, under the excitement of beauty. They seemed to be the very culture of the feelings, which I was in quest of” (“Autobiography”). For an example of what Mill was writing about, see this poem by Wordsworth (here).

It seems to me that Mill’s take on the question of whether happiness can be obtained by seeking it stems from his conception of happiness as having to do solely with seeking pleasure and avoiding pain. Mill seems to accept that happiness could be obtained by cultivating tranquillity:

the conscious ability to do without happiness gives the best prospect of realizing, such happiness as is attainable. For nothing except that consciousness can raise a person above the chances of life, by making him feel that, let fate and fortune do their worst, they have not power to subdue him: which, once felt, frees him from excess of anxiety concerning the evils of life, and enables him, like many a Stoic in the worst times of the Roman Empire, to cultivate in tranquility the sources of satisfaction accessible to him, without concerning himself about the uncertainty of their duration, any more than about their inevitable end”.

In his autobiography Mill reports that it was after his nervous breakdown that he came to the view that personal happiness cannot be obtained by seeking it. Kieran Setiya suggests that Mill displays a lack of self-knowledge because he became unhappy even though he had already met his own condition of aiming not at his own happiness, but at the happiness of others (here). However, my reading of Mill’s account suggests that he saw his problem as stemming from the moment when he asked himself whether he would be happy if all his objects in life were realized. Mill implies that his mistake was to question his own happiness:

Ask yourself whether you are happy, and you cease to be so. The only chance is to treat, not happiness, but some end external to it, as the purpose of life. Let your self-consciousness, your scrutiny, your self-interrogation, exhaust themselves on that; and if otherwise fortunately circumstanced you will inhale happiness with the air you breathe, without dwelling on it or thinking about it, without either forestalling it in imagination, or putting it to flight by fatal questioning”.

How should we view this? Should we treat it as an assertion that the way to be happy is to live a “meaningful” life? Or, should we treat it as an invitation by Mill to follow his example by avoiding any problems we might have in accepting our emotional states by losing ourselves in furthering causes that seem much more important than our own happiness? Should we view Mill’s fear of self-awareness as a symptom of low self-esteem?

Leaving those questions aside, what is my answer to the question I began with? Can happiness be obtained by seeking it? It seem to me that the answer depends on what you mean by happiness. You do not harm your chances of happiness by seeking to live a good life.

Sunday, September 28, 2008

Are the world's poor motivated solely by survival needs?

The answer to this question might seem fairly obvious. If people are living on less that a dollar a day, or even on less that two dollars a day, everything they do is likely to be motivated by survival needs. Right?

Actually, a recent working paper by Abhijit Banerjee and Esther Duflo suggests that perception is not correct. The paper is based on household surveys conducted in 13 low-income countries (‘Economic lives of the poor’, MIT working paper 06-29).

Those in poverty typically spend between about half and three-quarters of their income on food. The food they buy is not always the lowest cost way of obtaining nutrition – for example, where millets represent best nutritional value for money they also spend significant amounts on rice, wheat and sugar. They also spend significant amounts on tobacco and alcohol. Most surprisingly, they spend a substantial proportion or their incomes on entertainment e.g. television, religious festivals and weddings, and on funerals.

Does this mean that the world’s poor are eating enough? Not according to standards relating to such things as calorie intake and body mass indexes. The poor frequently suffer from illness related to malnutrition and many say that they often feel so weak that it is difficult for them to carry out daily activities.

Are they happy? The proportions reporting that they are worried, tense or anxious are relatively high. In general, however, the world’s poor are apparently not extremely unhappy, except when they have to go without meals.

Why do they spend on entertainment instead of spending more on food? Banerjee and Duflo suggest that this cannot be attributed to lack of self control because much of the entertainment spending of the poor tends to involve planning and saving. The authors argue that spending on entertainment is a strongly felt need and possibly associated with a desire of the poor to keep up with their neighbours. Whatever the reason, it is clear that the world’s poor do not focus exclusively on satisfying their physiological and security needs.

Why did these results surprise me? It must have been because I had faulty preconceptions about what it means to be very poor. As an undergraduate I learned about Engel’s law that the proportion of income that people spend on food tends to decline as incomes rise. At various times of my life I have also been exposed to Maslow’s pyramid of needs, which implies that people need to satisfy their basic physiological needs and their needs for safety and security before they become motivated by belonging and love needs, esteem needs and self actualization needs. Although Engel’s law and Maslow’s pyramid are broadly consistent with reality, they do not help people to understand that, like the rest of humanity, the very poor are not motivated entirely by physiological needs.

I read the paper by Banerjee and Duflo some time ago, but it has come to mind again as I have been reading Michael Hall’s book, “Self-Actualization Psychology” (Neuro-Semantic Publications, 2008). Hall is respectful of Abraham Maslow’s theories, but suggests that Maslow did not fully appreciate the importance to motivation of the meaning that people give to their circumstances. For example, Maslow admitted that it was a great mystery to him why affluence releases some people for personal growth while others stay fixated at a strictly materialistic level. Hall comments:
“Today, we can answer that puzzle. The experience of affluence is just an event or experience. What it means to any given person determines how that person will regard and feel about affluence” (91).

Hall emphasizes the importance of “meaning” as follows:
“Meaning is the most critical factor in human nature. There’s nothing more essential or core to our nature and experiences. In the end, no experience and no event makes us feel anything. In itself, no experience means anything. Meaning is not inside events” (90).

That provides food for thought. It also seems to me to help explain why very poor people do not focus their efforts exclusively on survival. Even though they are malnourished, living means a lot more to them than just survival.

Thursday, September 25, 2008

Will the financial crisis lead to more protectionism?

In opening the WTO’s Public Forum for 2008, which is taking place in Geneva at the moment, Pascal Lamy, director-general or the WTO referred to newspaper headlines heralding a potential Great Depression Two. He noted that policy-makers in the United States and across the globe, are desperately seeking to avoid the series of mis-steps that accentuated the financial crisis of the 1930s. Lamy then added:

“They are all stressing that lessons from the Great Depression have been learned, and that the many policy mistakes that were associated with it will be avoided. But one of the important lessons of the Great Depression, which we must not forget, is that “protectionism” and economic isolationism do not work. They are policies of the past, which should have no place in our future” (here).

I suppose that quite a few economists who are concerned about the current financial crisis have recently revisited what Milton Friedman had to say about the origins of the great depression. My conclusion after re-reading the relevant chapter of “Capitalism and Freedom”, is that the policy mistakes that led to the great depression are unlikely to be repeated. I am less sure that the U.S. will avoid the policy mistakes that Japan made at the beginning of the 1990’s - but that is not what I want to write about at the moment.

After I had read what Friedman had to say about the origins of the great depression I then found myself reading his comments on trade liberalisation in the following chapter about international finance and trade. If Pascal Lamy has good cause to be concerned about a rise in protectionism in the current environment – as I think he has - it seems to me that the best way to defend against it would be to revive efforts toward trade liberalisation. The following comments by Friedman on approaches to trade liberalization seem to me to be particularly relevant in the light of the recent failure of international trade negotiations:

“Given that we should move to free trade, how should we do so? The method we have tried to adopt is reciprocal negotiation of tariff reductions with other countries. This seems to me a wrong procedure. In the first place, it ensures a slow pace. He moves fastest who moves alone. In the second place, it fosters an erroneous view of the basic problem. It makes it appear as if tariffs help the country imposing them but hurt other countries , as if when we reduce a tariff we give up something good and should get something in return in the form of a reduction in the tariffs imposed by other countries. In truth the situation is quite different. Our tariffs hurt us as well as other countries. We would be benefited by dispensing with our tariffs even if other countries did not. We would of course be benefited more if they reduced theirs but our benefiting does not require that they reduce theirs. Self-interests coincide and do not conflict” (Friedman, 1982: 73).

Friedman made it clear in the following paragraphs that he was using “tariff” to cover non-tariff impediments to trade as well as tariffs.

It is difficult for those who share Friedman’s views about trade liberalization not to view WTO negotiations as vaudeville. The negotiation process seems to exist to allow politicians to clown around on the world stage keeping their domestic audiences amused, while behind the scenes they continue to pander to narrow interest groups favouring high protection.

Does this mean that the WTO is worse than useless? Not necessarily. The WTO has potential value as a forum that can help member countries to resist the pressures of domestic interests seeking to retain or even increase trade barriers. It seems to me that it is not beyond hope that WTO processes could be used to help individual countries to develop trade negotiation strategies that would achieve the benefits potentially available to them through unilateral reductions in protection. If many countries can induce each other to do this simultaneously, all can also obtain the benefits flowing from reductions in trade barriers of other countries.

How this could happen? The best ideas I have seen are in a contribution to the WTO Public Forum by Bill Carmichael, former chairman of Australia’s Industries Assistance Commission (here).

Monday, September 22, 2008

Is liberty opposed to virtue?

Robert Skidelsky argues that we have come to think of morality as having to do only with rights and obligations (here). According to Skidelsky, where there is no right or obligation, morality has become silent:
A man who, having fulfilled his obligations to others, settles down to watch porn on television all day may be foolish, disgusting, vulgar and so forth, but he is not strictly speaking immoral”.

Skidelsky claims that increased liberty, as advocated by J.S. Mill, is largely responsible for this apparent contraction in the scope of morality and in the decline in virtue ethics. As is well known, Mill argued in “On Liberty” that adults should be legally free to do as they choose as long as they do not interfere with the rights of others. However, he also argued against what he described as the “despotism of custom”:
The human faculties of perception, judgement, discriminative feeling, mental activity, and even moral preference, are exercised only by making a choice. He who does anything because it is the custom makes no choice. He gains no practice either in discerning or in desiring what is best” (Chapter on Individuality).

Skidelsky claims that contrary to Mill’s argument, increases in personal liberty have not enabled people to become more self-directed and happier. He observes: “Modern Britain, for all its profusion of choice, is hardly a showcase of fully developed personalities”. I imagine that Skidelsky would also consider that this observation applies to other western countries.

Skidelsky uses the TV show, “Big Brother” as an example of what he means: “It panders to the greed and vanity of its participants and to the voyeurism of its viewers. ... Yet from a liberal standpoint, there is nothing to be said against it. The participants are there of their own accord and may leave any time they please. ... On some level we know it is vile, yet we lack the authority and words to say so”.

Well, I think he just said that “Big Brother” is vile. In any case, Skidelsky has not convinced me that liberty is opposed to virtue. The fact that many people do not use their liberty to make good choices does not make their liberty responsible for their choices, or for the apparent absence of the use of moral language in the discussion of the choices that they make. It is only the possibility of choice that enables anyone to consider the morality or rationality or any other characteristic of the choices that anyone makes.

It seems to me that while liberty is not opposed to virtue, it is possible to argue that those who have been unduly influenced by Mill’s attack on “the despotism of custom” may have been left without a moral compass. As Friedrich Hayek pointed out, it is unwise to disregard customary rules just because their significance and importance is not obvious to us. These rules may embody wisdom resulting from the experimentation of many previous generations. Hayek also made the important point that whereas coercive rules unambiguously restrict liberty, customary rules are not despotic. They “can be broken by individuals who feel that they have strong enough reasons to brave the censure of their fellows” (“Constitution of Liberty, 1960: 62-63).
It is also possible to argue that in emphasizing the role of reason, Mill and his followers have not been sufficiently sensitive to the role that emotions play in morality. The role of emotions had previously been asserted by David Hume: “Morals excite passions, and produce or prevent actions. Reason of itself is utterly impotent in this particular. The rules of morality, therefore, are not conclusions of our reason” (“A Treatise of Human Nature”, 1739, III, I, i).

Nevertheless, even if it is possible to pin some blame on Mill for a decline in unthinking adherence to moral conventions, he can hardly be blamed for the apparent absence of moral language in the public discussion of the choices that people make. If anyone thinks that certain behaviour is unhealthy or in some other way inconsistent with living the good life, there is nothing stopping them from giving reasons why they think that. People might even be prepared to listen if those delivering the sermons regard themselves as moral equals.

Monday, September 15, 2008

Are our preferences always governed by hedonic factors?

Hedonic factors have to do with pleasure and pain. It seems to me that the answer to this question depends on how broadly or narrowly pleasure and pain are defined. It may be possible to define pleasure and pain so broadly that we can assume that our preferences are always governed by hedonic factors.

The question becomes more interesting, however, if a narrow definition of hedonism is adopted. Clive Hamilton has a very narrow definition of hedonism in mind when he writes: “The pleasant life, or life of pleasure, is one motivated by hedonism – the desire to maximise the number of emotional and physical ‘highs’ that is the signature of modern capitalism” (“The freedom paradox”, 2008: 12). Hamilton goes on to claim: “The hedonic conception of happiness is the one assumed by the utilitarian approach of neoliberal or free-market economics”.

Once you strip the gratuitous nonsense out of those statements it seems to me that you are left with nothing more than the assertion that the preferences that people reveal in their market behavior reflect only their desire to maximise the number of emotional and physical highs that they experience. That seems to me to be an offensive view to have of the motivations of one’s fellow human beings. If Clive actually observed the market behavior of real people he would see a lot of people making a lot of decisions with a range of motivations, including the longer-term well-being of their families.

Do free-market economists assume that the market behavior of people is motivated solely by a desire to maximise the number of emotional and physical highs they experience? I can’t speak for everyone, but I would be surprised if many free market economists would make that assumption. I imagine that most free-market economists would accept Lionel Robbins view that economists do not have to make judgements or assumptions about motivations: “Why the human animal attaches particular values ... to particular things, is ... quite properly a question for psychologists or perhaps even physiologists. All we need to assume as economists is the obvious fact that different possibilities offer different incentives, and that these incentives can be arranged in order of their intensity” (“An essay on the nature and significance of economic science”, 1945: 86).

Free-market economists believe that whatever motivates the market behaviour of individuals their preferences should generally be respected. My personal view is that individuals are generally capable of making judgements in their own best interests, that no-one else is better placed to make such judgements and that individuals are more likely to flourish when they know that they have to accept responsibility for the consequences of their own judgements. However, I also believe that some contrary views, such as those based on the evidence of irrational behaviour presented by psychologists and behavioral economists, deserve serious consideration (see previous posts on the topics of ‘autonomy and responsibility’ and ‘self control’).

Sunday, September 7, 2008

Are libertarians baffled by downshifters?

In his book, “The Freedom Paradox”, Clive Hamilton claims that libertarians are “baffled and distressed” by downshifters (Allen and Unwin, 2008: 22). Downshifters are people who voluntarily decide to reduce their income in order to free up time and energy for other pursuits. In attempting to support his claim, Hamilton poses the question: “If one believes that the world is populated by Homo economicus, rational economic man, what happens to that world when rational economic man freely chooses to transcend himself?”

Let us consider whether downshifting would actually puzzle some hypothetical libertarian whose economic education has been confined to the simplest thought experiments of neoclassical economics that employ the concept of rational economic man (REM). Would such a person have difficulty in incorporating downshifting decisions in such models? No. The REM in such models always choose to forgo some income in order to enjoy more leisure when this enables them to move to higher indifference curves. If our economist could find an appropriate article written by Gary Becker he/she might even be able to demonstrate that REM could transcend themselves (change their own preferences) by making appropriate investments in their “human” capital.

In any case, how many libertarians actually believe that the world is populated by REM? Many economists continue to use the REM concept where they consider that for the purposes at hand the added complexity of more realistic assumptions is not warranted. My guess is that, among mainstream economists, libertarians are less prone than other economists to employ the REM assumption where it is clearly inappropriate to assume that economic actors have perfect knowledge. This is because libertarians recognise the role of markets in integrating decisions of real people who have specialised and limited knowledge. Moreover, many libertarians have been influenced by the writings of Austrian economists who explicitly refrain from employing the REM assumption in their analyses.

Although Hamilton’s book contains quite a few silly claims, the author also develops a thoughtful line of argument to the effect that ethical behaviour needs to be based on inner freedom and a sense of purpose – living close to one’s nature - rather than on reason. Cassandra Wilkinson has written an excellent review article responding to Hamilton’s claims that western nations are descending into misery and moral decay (here). I might write more about some of Hamilton’s other silly claims later, but for the moment I want to focus upon his musings about ethics.

Hamilton’s line of argument is broadly as follows:

  • It is possible to distinguish between three different approaches to wellbeing – the pleasant life, the good life and the meaningful life. The pleasant life is about seeking pleasure; the good life is about personal growth, capabilities and human flourishing; and the meaningful life is about commitment to a higher cause e.g. pursuit of virtue or selfless moral principles.(This classification is attributed to Martin Seligman, but Seligman’s definition of the meaningful life seems more like Hamilton’s definition of the good life; see here).
  • As Friedrich Hayek recognised, we may be free and yet miserable. Liberty does not mean all good things or the absence of all evils (“Constitution of Liberty”, 1960: 18). We cannot achieve a good life or a meaningful life if we lack inner freedom i.e. if we are slaves to our passions.
  • The decline of the authority of the church has left people unsure where to look for moral guidance. Attempts to build moral systems based on reason, e.g. Kantian and utilitarian theories, develop universal rules that are meant to apply equally to all. “Yet in situations where the moral decision is victimless it is common today for people to adopt the view that, although it would be wrong for them to do a particular thing, they would not condemn others for acting differently” (140). (Thank God, I say! It seems to me that this is an appropriate application of the golden rule to do unto others as you would have them do unto you.)
  • “Through a form or intuition we are able to understand that the inner nature of each of us is identical with the thing-in-itself – the universal substance or subtle essence and that all existence has a unitary nature” (146). “If the universal Self is the subtle essence of each of us, the moral self is the most immediate expression of that universal Self in the phenomenal world. It is the innermost voice of conscience, where all personal interests, social conventions, duties and obligations are left behind” (147).

The final point clearly involves an attempt to grasp at moral insights that stem from the things we have in common with other humans and indeed with all living things. Of necessity, however, humans do not all share the same intuitions about such things. In the words of Douglas Rasmussen and Douglas Den Uyl:
“since our humanity is not some amorphous, undifferentiated universal, human flourishing does not have some abstract and universal character. The generic goods that constitute human flourishing only become real, determinate, and valuable when they are given particular form by the choices of flesh-and-blood persons. In reality, the importance and value of these goods is rooted in factors that are unique to each person” (“Norms of Liberty”, 2005: 80).

Monday, September 1, 2008

What does Shermer tell us about the mind of the market?

After reading Michael Shermer’s book, “The Mind of the Market”, I felt of a mind to write something critical. Then I read a couple of critical reviews of the book and decided that I should find a way to tell people that it was worth reading.

The subject matter of this book is the way our emotions and behaviours are influenced by the fact that our brains evolved to operate in hunter-gatherer economies rather than in modern market economies. The age in which we live - and take for granted as normal -accounts for a mere one-quarter of one percent of the history of humanity (3).

The main problem I have with this book is the author’s failure to build upon the work of those who have considered similar issues before, particularly Friedrich Hayek. Although Shermer has a similar libertarian perspective he barely mentions Hayek’s contribution.

It seems to me that Shermer could have usefully specified the aim of his book as being to bring the findings of neuroeconomics research to bear in re-considering what Hayek had to say about the human mind as “an adaptation to the natural and social surroundings in which man lives” and as “the product of the social environment in which it has grown up” (“Law, Legislation and Liberty, V. 1: 17). He could have related much of the neuroeconomic evidence he discusses to the problem identified by Hayek of dealing with primordial instincts in a modern society:
“The conduct required for the preservation of a small band of hunters and gatherers, and that presupposed by an open society based on exchange are very different. But while mankind had hundreds of thousands of years to acquire and genetically to embody the responses needed for the former, it was necessary for the rise of the latter that he not only learned to acquire new rules, but that some of the new rules served precisely to repress the instinctive reactions no longer appropriate to the Great Society” (LLL, V. 3: 164).

Shermer suggests that widespread distrust of the market mechanism and the tendency for unequal wealth to be attributed to ill-gotten gains is a consequence of the fact that our hunter-gatherer ancestors lived in small communities where everyone knew everyone, most resources were shared, wealth accumulation was almost unheard of and excessive greed and avarice were punished (18). He suggests that it is likely that moral emotions evolved out of behaviours that were reinforced as being good either for the individual or for the group. Hence humans tend to favour kin over non-kin, friends over strangers, in-group members over out-group members (115 -117).

Shermer makes a strong case that a lot of the evil behaviour that occurs today can be traced to the instinct to favour in-groups at the expense of out-groups. He argues that evil, such as that found in Abu Ghraib and Enron, is the product of corrupting circumstances. Instead of attributing evil to a few bad apples we should look more carefully at the barrels (the organisational culture) in which they are found (205).

He also makes a strong case that our ancestors’ aversion to inequity helped to promote beneficial cooperative interactions because individuals who feel they are being cheated by one trading partner can look for another partner to trade with (176). Free trade breaks down the normal tribal barriers blocking trust. “Trade makes people more trusting and trustworthy, which makes them more inclined to trade, which increases trust ... creating a self-reinforcing cycle of trust, trade, freedom and prosperity” (186). “The psychology behind defusing intergroup aggression involves turning potentially dangerous strangers into prospectively helpful honorary friends (252).

Shermer also has some interesting things to say about happiness. He defines happiness as “a subjective state of well-being that depends on relative frames of reference, grounded in an evolved psychology that finds meaning in the simple social pleasures and purposes of life” (140). On page 158 he suggests that the evolutionary purpose of emotions is to get us to act in ways that lead to an increase in reproductive success. By page 161 he has reached the point where he states: “my point here is that being social is integral to all aspects of our lives, including our Subjective Well-Being”. Over the next few pages we climb to an even higher level until on page 166 we are told, “It all comes to this: the simplest way to be happy is to do good” (166).

That sentiment was attributed to an article Helen Keller wrote in the “Home Magazine” in 1933. For some reason I wished at that point that Shermer had mentioned that the link between virtue and happiness goes back at least as far as Aristotle.