Jason Brennan asks the Austrian economist “What do you think of behavioral economics that purports to show people often act irrationally in the market?”
He is already going off the rails because what the behavioral economics and finance literature shows is that some people may act, in certain cases, irrationally on a personal and individual actor basis. This literature does not show that such individual behavior creates market outcomes that are likewise irrational. Nobel Prize winner Eugene F. Fama argues the same, plus his 1998 paper “Market efficiency, long-term returns, and behavioral finance” provides evidence that behavioral quirks do not affect financial market outcomes systematically. Here’s a question and answer asked of Fama:
Question: “Has the advance of all this behavioral stuff, behavioral finance, made you rethink anything?”
Answer: “Yes, sure. I’ve always said they are very good at describing how individual behavior departs from rationality. That branch of it has been incredibly useful. It’s the leap from there to what it implies about market pricing where the claims are not so well-documented in terms of empirical evidence.”
As an example of a very strong behavioral bias that influences individual choice, I’d cite the Monte Hall problem. There is no evidence I know of that the weakness in human reasoning that this problem highlights results in systematically biased market behaviors.
Brennan writes “If your theory doesn’t account for actual human behavior very well, then it’s impotent to defend real life markets…” This is not true. A given quirk in individual behavior may cancel out when a market of many people is involved. People may learn over time. Intermediaries may arise that allow people to overcome biases. Some biases that affect many people in the same way may cancel other biases.
More importantly, I do not concede that either Austrian or ordinary economic theory “doesn’t account for human behavior very well.” Both theories have their successes and their limitations. This charge of Brennan’s is too vague to counter, anyway.
Both Austrian and non-Austrian economic theories share certain presumptions, if only because economic theory has absorbed certain Austrian insights. Hence, even if these theories do not account for certain human behaviors, this does not isolate Austrian theory as suspect or inferior. Indeed, in the literature, behavioral anomalies are often taken to be challenges to ordinary economic theory.
What Brennan seems to dislike the most is the notion of a priori postulates that appear to be impossible to negate, that is, whose truth is unassailable. However, there are such truths. “You can’t have your cake and eat it too.” “Different times are not simultaneous but successive.” “A person or firm cannot issue a security without the buyer expecting to gain something from the purchase.” “A buyer of an uninsured bond cannot form an expectation of being repaid without knowing something about the ability and intent of the issuer to honor the bond.” “If a is part of b and b is part of c, then a is part of c”.
Austrian economics has, among others, the a priori statement that “Human beings act, that is, human beings employ some means to achieve some ends purposefully.” I do not see how this can be refuted. In arguing otherwise, Brennan is employing various means to persuade us and that is his purpose. More importantly, how can the use of postulates that appear to be true be construed as a strike against a theory? Ordinary economics has its own list of postulates in devising its theory of consumer behavior, say. They function in the same way that a priori statements in Austrian economics function. Both approaches involve the construction of theories.
Brennan’s Austrian straw man is contained in his supposed Austrian’s reply to the challenge of behavioral economics:
Austrian Dude: “That doesn’t pose a problem for economics. Economics is a priori.”
Behavioral issues do not pose a problem for either ordinary or Austrian economics, both of which construct models using some basic postulates, unless and until the behavioral economists manage to devise a full-fledged model of market behavior that is an alternative to the conventional ordinary and Austrian ones. And then they have to persuade us, either theoretically or empirically or both, that their model should replace existing models.
Austrian economists do not have their heads stuck in the a priori sand, as Brennan seems to think. An a priori theory has to face up to reality as much as a theory based on unrealistic assumptions.
I also think that Brennan doesn’t appreciate the connections between Austrian economics and libertarianism, as evidenced in his statement “…you shouldn’t advocate libertarianism in the real world on the basis of your Austrian economics.” He’s taking far too narrow a view of it. I explained some of those connections here.
2:11 pm on October 28, 2013
