The science of interaction

Our guest blogger, Tirta, raises the issue on the individual vs. collective behavior, and the importance of taking the distinction into account.

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The science of interaction
by Tirta

I have the following issue with Milton Friedman's dictum that economic assumptions are only as good as the predictions they make.

The dictum implies that in any economic model, what really happens in individual minds doesn't really matter, as long as the collective phenomenon of interest can be predicted. In fact, one of the criticisms against the recent interest in behavioral economics is that at the aggregate level, there's no such thing as irrationality. Individuals may be irrational, but society as a whole is rational – as shown by the success of rational models in their predictions of many collective actions.

Now this is all fine, if there is only one explanation behind each phenomenon of interest. But what if the phenomenon of interest can be predicted by two differing models built upon two dissociable assumptions behind the action of the individual – one being more psychologically realistic than the other? Should we choose the simpler assumption (i.e. homo economicus) for the sake of neat predictions? Or should we pick the more realistic one (e.g. homo behavioral-economicus, homo neuro-economicus) at the expense of perhaps less clear and less fruitful predictions?

I think there is a danger in the tendency to prefer simple and neat models to complex and more complicated ones. Parsimony as a scientific criterion doesn't always apply, at least when it comes to explaining how the human mind works. A century of psychological explorations have shown that the human mind and brain are necessarily complicated and, as far as reality goes, cannot be further simplified.

So it seems that we are left with either making good-collective predictions based on bad-individual assumptions, or making bad-collective predictions based on good-individual assumptions.

Can we make good-collective predictions based on good-individual assumptions?

In principle yes, and I think the key lies in understanding how the actions of individuals result in collective phenomena. The more we understand about the science of interaction, the less we have to rely on making unrealistic assumptions about individuals, while at the same time maintaining our accuracy in predicting the emergence of collective actions.

Now I personally don't know how far we've come with the science of interaction. But I sense that, if anything, the end result of understanding how different individuals interact with one another in collective settings would be better and more fruitful economic predictions.