Tuesday, June 19, 2012

Interview with Gary Becker on Rationality

Catherine Herfeld has an interview with Gary Becker in the Spring 2012 issue of the Erasmus Journal for Philosophy and Economics. It's called "The potentials and limitations of rational choice theory: an interview with Gary Becker." I found it in a post from Peter Klein at the "Organization and Markets" blog. Herfeld tries to push Becker on the limitations of rational choice theory and whether economists should be considering alternatives like behavioral economics, and Becker pushed back. Here are a few excerpts:

Becker on behavioral economics and the financial crisis

"But did the behavioral economists predict the crisis any better? When taking a look at the literature, one does not find better results. ... In terms of understanding the crisis, I do not think that more realistic behavioral assumptions would solve the problem. ...  In fact, I do not think that behavioral economics is a revolution. However, it has added some insights into human behavior and those insights, to the extent that they are verifiable, will be absorbed into the rational choice model. They will not lead to a radical change of the model. The real issues are how important are those insights and where do they apply?"

"So, for example, the explanation that consumers were somehow misled in the credit market, and that this in turn contributed to the financial crisis: I think there is very little empirical support for that. A lot of consumers were making pretty rational decisions, even those who were taking out mortgages with low interest rates and low down payments. Maybe they were going to default. But they did not default on their own capital. They defaulted on the lender’s capital. So I see very little evidence from this that consumers are not rational, in the sense that the rational choice model cannot explain most of what they did."

Becker on the use of mathematics in economics

"There is a lot of critique against mathematics in economics, from non-economists, from Austrian economists and from other groups, and I think it is misplaced. Mathematics can be a very useful servant; when it becomes the master, we are not in a good situation. However, I do not think it has become a master in economics. I think we made mistakes in understanding how economies move forward, even in understanding the pricing of derivatives. But one can make these mistakes, and plenty of mistakes have been made, without using any mathematics. Sociologists make a lot of mistakes without using mathematics. So I do not think that the problem is the use of mathematics per se. ... If we did it all verbally, would that improve our science? Economics was a verbal science until the 1940s and I would say we are now doing much better than the economists back then."

Becker on "takes a theory to beat a theory"

"If you want to abandon rational choice theory altogether, you have to substitute it with a new framework, and I do not see any new framework available at the moment—neither in the behavioral economics literature nor anywhere else—that has comparable explanatory and predictive power. That is the test. It is an old saying that you need a theory to beat a theory. That does not mean that you cannot extend the existing theory or modify it—you can and you should. As we learn more, we will modify rational choice theory. Maybe fifty years from now it will not be like rational choice theory anymore, because by then it will have been modified and changed in so many ways. That is how things evolve."

Becker on  how economics looks at aggregates and market relations, not at particular individuals
"Economists can make use of individual data panels and other data based on observations about the individual. However, what we are interested in are aggregates and market relations. For example, if the political aim is to subsidize education, economists do not care about how you respond or I respond in particular. Maybe there are differences in how Germans respond or Americans respond, or how people who study at the University of Chicago respond in comparison to how students from Columbia University respond, and I guess that we would care about that. But not about how the individual responds. In my opinion, this is a fundamental difference between psychology and economics."