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It’s in Your Own Best Interest

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Henri Cartier-Bresson/Magnum Photos
Children buying toy cars, Paris, 1967; photograph by Henri Cartier-Bresson

1.

Public, political, and academic opinion about the role of government has changed considerably since the early 1980s. There is now a widespread presumption that private, free-market solutions are the appropriate way to address not just economic but also social and political issues. In the spirit of our free-market era, Simpler: The Future of Government outlines strategies that regulate economic behavior but also promote individual welfare by preserving freedom of choice rather than by mandates, prohibitions, subsidies, and other incentives.

Cass Sunstein is a leading legal and political theorist, recognized for his many works in constitutional jurisprudence and regulatory theory. In recent years, he has been trying to combine his long-standing commitment to progressive liberal positions with advocacy of free-market liberalism. Lately, and most notably in his best-selling book of 2008, Nudge: Improving Decisions About Health, Wealth, and Happiness (coauthored with the economist Richard Thaler), Sunstein has sought inspiration from the growing field of behavioral economics.

Simpler is a follow-up to Nudge. Sunstein draws from his experiences as head of the Office of Information and Regulatory Affairs (OIRA) from 2009 to 2012. OIRA, a division of the Office of Management and Budget, oversees and critically assesses federal regulations, fulfilling a 1981 mandate from then President Reagan to ensure that “regulatory action shall not be undertaken unless the potential benefits to society for the regulation outweigh the potential costs to society.”

Sunstein contends that “the future of government” largely lies in policies that preserve freedom of choice. Such policies, which he and Thaler dubbed “nudges,” would encourage people to make decisions that benefit rather than harm them. Nudges attempt to influence people’s choices by altering the circumstances of choice to bring about a desired result. “To count as a mere nudge,” Sunstein writes, “the intervention must be easy and cheap to avoid. Nudges are not mandates. Putting the fruit at eye level [in a school cafeteria, for example] counts as a nudge. Banning junk food does not.” Advertisers and salespersons are professional nudgers. They appeal to our feelings and influence our beliefs and judgments so that we choose in ways that benefit them. Government nudges, by contrast, are designed to influence individuals to choose in ways that promote their own health, safety, and welfare.

Sunstein calls government nudges “libertarian paternalism.” Government, he says, should use its regulatory powers to simplify the disclosure of relevant information and present choices in ways that encourage individuals to freely choose alternatives that benefit rather than harm them. The nudges Sunstein discusses in Simpler fall into four broad categories. The first includes simple disclosures—the number of calories in soft drinks, for example. Here Sunstein emphasizes the need for simplifying health, safety, and financial information on products. His main examples, aside from clearer summaries of nutrition facts, include simplified labels about the fuel economy of cars and energy labels on appliances, and clear information about total fees, penalties, and interest on mortgages, credit cards, and other loans.

A second category of nudges consists of beneficial default rules, which ensure that if people do nothing at all (“default”), things will go well rather than badly for them. For example, Sunstein points to government efforts to encourage employers to automatically enroll their employees in 401(k) plans as an example of a beneficial default rule, one that results in employees having far greater savings, unless they choose not to participate. Other examples include automatic enrollment in health care and Medicare drug plans and in free school lunch programs for eligible children. In such cases freedom of choice is preserved but has to be asserted if the default is to be changed. Sunstein also advocates automatic enrollment in a national organ donation program, in which, again, people can refuse to take part.

The third category covers guidelines for making important information, such as warnings, visible and salient, since people are often blind to the obvious. For example, Sunstein believes that the health warnings required on tobacco packages have become much too familiar. He argues that, in order to be effective nudges, tobacco warnings should be far more graphic—enough to evoke strong visceral reactions. Finally, Sunstein endorses cost-benefit analysis of government programs as an effective nudge since it pushes agencies to focus on the economic consequences of regulations and can, he argues, promote social welfare. For example, a rule to make refrigerators more energy-efficient might add an average of $200 to their price, but save consumers only $100 over the unit’s lifetime. “If the goal is to help consumers,” Sunstein writes, “the rule sounds pretty hard to defend…. Cost-benefit analysis shows why. Without an accounting, we would not be in a position to know whether this rule is a sensible idea.”

Nudges are effective, Sunstein explains, because small details often significantly affect people’s behavior, as with the order in which food is presented in school cafeterias. The framing and presentation of available options is one example of “choice architecture,” which Sunstein defines as designing the social environment in which people make decisions so that it influences their choices. Nudges are a form of choice architecture that alters people’s behavior without forbidding options, mandating choices, or (unlike subsidies or fines) significantly changing economic incentives. For example, choice architects decide “that your car has…a clear display of how many miles per gallon you are now getting” and “that you see, or don’t see, all of the extra fees associated with your airfare.”

2.

The theoretical background for nudges is the growing field of behavioral economics, which modifies standard economic theory’s model of rational economic man. In the standard theory, individuals are said to be rational in that they maximize their gains and minimize their losses. According to the theory of expected “utility,” or welfare, rational persons first rank their preferences for goods or social arrangements and then maximize their welfare by consistently choosing their highest-ranked preference. Many economists also think that rational persons prefer only what is best for themselves, benefiting others only if it coincides with their own self-interest.1

Most economists acknowledge that many choices people make are not rational in their sense. Still, they contend that the rational man model is a sufficiently close approximation of how people normally behave in making economic and many noneconomic choices. Since the 1950s, economists such as Nobel laureate Gary Becker have extended the economic analysis of behavior to subjects—including, for example, love and marriage—traditionally dealt with by sociology, psychology, and political science.

Many social scientists, however, argue that we are nowhere near as rational, reflective, or self-interested as mainstream economists assume. Their theories of “bounded rationality” say that, rather than choosing our best option, we often choose one that is merely “good enough” even when better choices are available. This can lead to inconsistent choices. Experimental psychologists argue that we frequently act less than rationally in the economists’ sense. Most of us do not deliberately and objectively assess information about our options, calculate probabilities of risks, and make choices based on our objective assessmentss.2 Instead, we typically act intuitively, out of habit, or automatically, making choices based on rules of thumb. Often our judgments about ways of solving problems—“heuristics”—are useful, but sometimes they can lead to severe errors. In short, human decisions are subject to many biases in our thinking that are irrational from the perspective of rational economic man.

One cognitive bias Sunstein discusses is “loss aversion.” For most people, losses loom larger than gains. Consequently, losing certain things often makes us more than twice as unhappy as gaining the same thing makes us happy. This aversion to loss sometimes causes people to make choices that are economically irrational. To invest none of your retirement savings in stocks and put them all in a bank account that yields hardly any interest will seem safe but is not a rational way to manage your money. Sunstein wants government to make use of our cognitive biases. For example, loss aversion suggests that fees and taxes should be more effective in altering our behavior than rewards or subsidies. Imposing a five-cent tax on grocery bags has a major effect in reducing their use while paying a five-cent bonus to bring reusable bags has been ignored.

Other psychological biases Sunstein discusses include optimism and overconfidence; the “bandwagon effect” or herd-like behavior; the “status quo” bias, which leads people to procrastinate or to continue patterns of conduct in spite of their adverse consequences; the “affect heuristic,” which leads people to assess costs, benefits, and probabilities by consulting their feelings rather than calculating the numbers; and the “availability heuristic,” which distorts individuals’ assessment of probabilities of bad outcomes. The last leads governments to allocate resources in ways that respond to people’s fears rather than to the most likely danger. For example, the emphasis on terrorist attacks, airplane crashes, and tornadoes leads us to greatly overestimate our susceptibility to them, while we underestimate our greater susceptibility to risks such as smoking, sunbathing, and overeating.

Nonetheless, many mainstream economists resist the applications of cognitive psychology to economics. Milton Friedman famously argued that positive economics, like any serious science, often makes unrealistic and sometimes “wildly inaccurate descriptive representations” in its models and hypotheses, but this lack of realism is of no consequence so long as the laws and hypotheses of economic analysis predict behavior more accurately than do other explanations.3 Behavioral economists and others might counter that standard economic theory fails to do just this when applied outside the sphere of free-market behavior, and even then often falls short when it comes to the national economy. For example, economic theorizing based on the “efficient markets hypothesis” failed to predict the 2008 financial collapse because it was unable to appreciate both collective overconfidence and blindness to risk and uncertainty in the stock and financial markets.4

In response, mainstream economists might say that businesses that do not calculate their costs, risks, and benefits do not—or should not—survive for long in a competitive environment. When people are shown how inconsistent or otherwise irrational their choices are, they often acknowledge their misjudgment and try to change their conduct. None of this, however, shows that public policy should not incorporate the insights of behavioral economics.

Sunstein’s nudges acknowledge—but then redirect—our tendency to make irrational choices. He writes, “The best nudges move people in the directions they would go if they were fully rational.” Nudges influence people to act more in their own best interests. This suggests an ambivalent attitude toward the standard model of economic man: Sunstein criticizes that model as inaccurately describing how people normally choose but endorses it as a normative model of how we ought to choose. For Sunstein, there is no conflict here. His endorsement of the standard model of rational choice is built into “soft paternalism” or the libertarian paternalism he advocates.

3.

For Sunstein, nudges are “libertarian” since they preserve freedom of choice but also paternalistic in that they promote individuals’ well-being, presumably “in a way that will make choosers better off, as judged by themselves.” “Libertarian” is an ambiguous term, given its associations with liberal positions on both the left and the right. Civil libertarians, typified by the ACLU, emphasize the importance of personal and political freedoms, including freedom of conscience, association, speech and expression, and freedom to act on one’s tastes and convictions and pursue one’s own life.

  1. 1

    The claim that self-interest is rational is not part of utility theory and is widely contested. Many social scientists and philosophers contend that we also sometimes choose to benefit (or burden) others, regardless of our own welfare. See Daniel Hausman, Preferences, Value, Choice, and Welfare (Cambridge University Press, 2012), chapters 2.3 and 2.4. 

  2. 2

    Sunstein relies especially on Nobel laureate Daniel Kahneman, who in Thinking, Fast and Slow (Farrar, Straus and Giroux, 2011) provides an important summary of the experimental psychology undergirding behavioral economics. 

  3. 3

    See “The Methodology of Positive Economics,” in Friedman’s Essays in Positive Economics (University of Chicago Press, 1953), pp. 3–34, at p. 14, which was heavily influenced by the philosopher Karl Popper. That the sole purpose of scientific explanation is to maximally predict phenomena is now much less acceptable to philosophers of science. Among other reasons, it cannot account for many explanatory achievements, including those in evolutionary biology and related fields. 

  4. 4

    On the efficient market hypothesis and its role in cultivating the excessive faith in free markets behind the financial crisis, see Alan Blinder, After the Music Stopped (Penguin, 2013) pp. 64–65. 

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