On Psycho-economics

Tirta, a psychologist-in-training who knows a little quite a bit about economics thinks psycho-economics still have a long way to go before we can use it to dismiss conventional economics. He's in fact worried that psycho-economics is fast becoming an empty fad. - Manager

On Psycho-economics
by Tirta

Here's a provocative comment from Terry Burnham (which was emailed to me by our sociologist friend a while ago):

"At one level, the logic of economics is so rigorous, but it is built on a foundation of folk psychology that we would mock in other fields..."

To put things in context, the comment was made in response to a 2002 study by Andrew Lo and Dmitry Repin, the former finance professor, the latter neuroscientist. The two guys jointly discovered that heart beat, blood pressure, and skin sweat were crucial in predicting the behavior of stock traders. They went on to claim that there's a lot of irrationality and emotion going on in Wall Street and places alike, which were once thought by many economists to be full of heartless people.

Incidentally, it turns out that Burnham was the guy who did the recent testosterone study, which found that the more you have the masculine hormone, the more you will reject unfair offers in standard ultimatum games. Alpha males, in other words, are psychologically fond of equality and distributive justice (not necessarily through philosophical reflections though, as I've alluded here).

Guys like Burnham are commonplace today. These are people who apparently are not satisfied with standard economics models of rational agents. They resort to psychological constructs and colorful brain pictures for insights on how to explain some economic behaviors. They like discussions containing words like 'intuition' and 'emotion' more than those sticking with 'rational', and seem to think that these psycho-economics explanations are one step ahead closer to the truth of why we behave the way we do.

Well I'm a psychologist-in-training who happen to know a tiny bit about economics (at least this Cafe's version of it), and I don't think so. Here’s why.

Psychologists have only began to explore the workings of intuition and emotion in the 1990s. In the 1920, we were obsessed with the relationship between stimulus and response, which at best gave birth to learning and conditioning theories applicable mostly to rats. In the 1950s, we finally saw the light, and dared to open the black box -- namely, the mind -- and started to converse in terms of memory, thought, personality, attitude, and the likes.

But we didn't talk about emotion or intuition until only recently. Of all topics in psychology, emotion and intuition are among the most alien and under-researched.

Current psycho-economics explanations are mostly tautologies, because the mechanisms of the mental properties they are referring to are themselves subject to active investigation. Yes, emotions do influence traders and ultimatum game players, so they are not as rational as they were thought to be. But the questions shouldn’t stop there: How exactly do emotions exert their influence? Which emotions? Under what circumstances? How do they interact with cognitive-based judgements and decisions? And the list easily goes on.

Psychology still doesn’t have a sound theoretical basis as to how emotion and intuition work, and more importantly, how they both relate to cognition at large. As interesting as those colorful brain images (usually coupled with paragraphs consisting of those weird latin words familiar mostly to medical doctors) can be, we still have no idea on how to tie them all together to explain why we do what we do – and why we think what we think.

So it's ironic when some economists think that they are significantly advancing the field by referring to psychological concepts like 'emotion' and 'intuition', which have only been around in the psychology literature for a decade or so, and of which our understanding is clearly minimal.

I think psycho-economics are becoming more and more like an empty fad. Some scientists got a little bit too excited and make too much out of it. As do the journals, newspapers, and blogs.

Here's another example, which actually got this post started in the first place.

A few weeks ago, I sent this op-ed to some of the cafe's managers. Roland Fryer, a Harvard economist, recently suggested that rewarding money would make bad NYC students more diligent and studious. Barry Schwartz, a Swarthmore psychologist who wrote the op-ed, disagreed. He pointed out that this simple reward scheme would distort the many other motives that are inherent to learning.

Responding to Barry's piece, here is an economist friend of the Cafe:

"Probably due to my own bias, but I tend to side with the psychologist on this. I have seen a similar phenomenon at [my place of work] where people who focus on the financial incentives do not produce quality work relative to those who are interested in the work per se. I think multiple objectives do compete (which is why economists don't believe in corporate social responsibility), and this incentive will skew the objective of going to school."

It's true that humans have competing motives all the time, and yes, money is one of them. And going to school, surely, should be based on the noble motive of learning-for-the-sake-of-learning.

But I'm not sure if I totally agree.

One may criticize economics, as I automatically did when I read the op-ed initially, for freakonomically assuming that everything -- learning and school included -- is about the right type and amount of incentive. Yet psychology, so far as it recognizes the many different faces of motives, intuition, and emotion, has no idea as to how these mental attributes really interact. We know that it’s not just about money. The problem is, we don’t really know what the rests are.

So here’s my question. When these bad students are already devoid of the intrinsic motives of learning, which I presume was what Fryer had in mind, which would you pick: play carrot-and-stick to at least feed their mind with something that is potentially useful, or leave them as they are on the street with no better mental arsenals to face the future?

I personally would opt to be pragmatic, simplify matters appropriately, and thus side with the conventional economist. At least for the time being.