Richard Thaler takes the Behavioral Economics traditions to the next level, he is the rightful successor to Tversky and Kahneman and with this year’s Nobel, Economics takes a deeper look at Behavior and all the associated traits. Thaler helped the world to unravel some of the mysteries of decision making in the markets.

Some of the mysteries around risk were unraveled by Kahneman but Richard Thaler looked at some of the deeper insights that lead to human inclinations, especially in the area of savings, debt and pension where self control as opposed to rational thinking could be the dominant emotion.

In fact emotion as opposed to crude optima or simply that human beings are not common in their choice making, makes the foundation of Thaler’s work. His important paper “Self Control“, makes a great case on why markets will remain unpredictable to some extent and why influencing outcomes would have more than one way.

His book ‘Nudge’, works on this very central theme that you can simply make a calculated suggestion, but you cannot be sure that you would be able to drive home a point conclusively.

The concept of Nudge is simple, “A nudge, as we will use the term, is any aspect of the¬†choice architecture¬†that alters people’s behavior in a predictable way without forbidding any options or significantly changing their economic incentives. To count as a mere nudge, the intervention must be easy and cheap to avoid. Nudges are not mandates. Putting fruit at eye level counts as a nudge. Banning junk food does not.”

Putting a fake housefly in the men’s urinal is precisely that, to nudge.

Effort and attention could be better directed with nudge as opposed to regulations and prescriptions. Out right prohibition could just have the opposite effect than allowing dis-incentives to act. We have examples from alcohol to smoking from one country to the other.

This could have wide ramifications in the field of choice theory or in designing of financial products where discounting rate itself could be very mysterious. Why would one want to forsake something for the future when its usefulness in the future could be coming down? Or the other way round why would one want to enjoy something less accurate and risky if a more matured version is going to be available in a matter of time (think of the first product launch which could be a risky proposition but if the people were not attracted to it you can never charge a premium to it, whereas the subsequent version would always be better as all corrections would get developed into it).

The concept of planner and doer is at the core of Thaler’s strategy in “Self-Control”. If one is a planner, he cannot do and vice versa or to a limited extent. A far sighted planner and a doer must co-exist in a firm, otherwise you have a de-synchronized attempt almost similar to the agency problem. The problem of agency is better sorted through alignment of incentives. However incentives could be self-inflicted like the man on diet would refrain from keeping cheese cakes in his refrigerator, similarly debt ethics would prevent some behaviors beyond a point.

The debt repayment and multiple period loans and rolling over of debt are off shoots of this line of thinking, where self control acts as a way of enforcements to the rule based system.

If incentives are ways to enforce an action, withdrawal of incentive would have the opposite effect. A very low interest rate is a way of incentivizing dis-savings for example. The whole genre of financial products were created when the alternate for savings did not exist and savings did not give the desired result.

Thaler will also be remembered for his Winner’s Curse theorems, when an auction invariably leads to a winner over-paying, which is a mix of lack of information and emotions playing on the outcome.

Take a glass jar and fill it up with coins and ask your group to bid for the jar. The winner will be the one who will invariably pay more than what money is entrapped in the jar.

No wonder most auctions end up with the highest bidder over-paying for the value at stake, whether it be minerals or companies. It is just not lack of information, but the emotion that prevents the self-control to act in concert.

That and many other mysteries have been solved by Thaler; the world gains from his recognition. .

2017 Nobel In Economics: Behavior & Psychology move some notches up

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