Do We Want the Government Nudging Us?

Part 2 of a Discussion of Peter Foster’s Why We Bite the Invisible Hand Chapter 12 “Homer Economicus”

In the last blog, we explored Foster’s critique of behavioral economics, and now we will see how its incorrect diagnosis of the problems in economics has led to conclusions for more economic planning.

Specifically, this school of thought has led to a sort of “libertarian paternalism” that rankles Foster. (p. 258)

Nudge was a very popular book in 2008 written by economist Richard Thaler and law professor Cass Sunstein that called for policy makers to frame decisions in order to nudge the hapless in what those in charge considered the right direction. (p. 258)

Foster takes issue with the assumption that the policymakers know better than the people, which Sunstein made explicit in an article he wrote when he characterized Homo economicus as more like Homer Simpson. (p. 259)

“They are more like Homer Simpson than Mr. Spock. Call them Homer economicus if you like, or just Humans.” In other words, ordinary people were pretty much morons who needed superior intellects such as Thaler to tell them how to tie their economic shoelaces. (p. 259)

Thaler was writing that article during the housing crisis so he suggested a contributing factor was the complexity of mortgages. He acknowledged banning complex mortgages could “choke off innovation,” so instead, he suggested having “plain vanilla” mortgages available for the Homer Simpsons and only allow more complex instruments if they are assisted by “certified mortgage planners.” (p. 260)

Foster’s not impressed with calling for a new class of certified smart people to help Homer.

Certified like, say, the ratings agencies that had handed out AAA status to steaming packages of toxic mortgage crap? (p. 260)

Foster goes in for the kill: Thaler’s solution for the Homer Simpsons of the world is help from the government, but then look at the politician in Simpson’s world, Mayor Joe Quimby, corrupt and incompetent. (p. 260)

Once again, there is a call for experts to plan better than the market can without recognizing the experts are just flawed people as well.

Foster observes Thaler’s focus on a policy solution for the 2008 mortgage crisis but notes Thaler managed to not examine all the government solutions that were in place that contributed to it. (p. 261)

• Fannie Mae and Freddie Mac were the pseudo government entities that made it possible for banks to offload loans that could not be profitable
• The many housing oriented government offices including Department of Housing and Urban Development, the Federal Housing Finance Board, the Federal Housing Administration, and the Federal Housing Enterprise Oversight
• The many laws including Fair Housing Act (1968), the Community Reinvestment Act (1977), the Home Mortgage Disclosure Act (1975), the Community Development and Regulatory Improvement Act (1994), and the American Dream Down Payment Act (2003)

And those lists are not close to exhaustive.

Do you still think it was free market capitalism that caused the mortgage crisis with all those agencies and laws designed to help the Homers?

Hadn’t this whole regulatory morass been a classic example of “nudging”? American legislators had nudged lenders to issue subprime mortgages in order to nudge poor people to buy houses. Fannie Mae and Freddie Mac had aided in the nudging through their support for packaging and guaranteeing bundles of mortgages. The Fed had artificially nudged interest rates lower in the aftermath of the internet bubble at the turn of the century, thus feeding the housing boom. And everybody had been nudged off a financial cliff. (p. 261)

Foster cites a “comprehensive refutation” to thinking like Thaler from a French economist, Anne-Robert-Jacques Turgot who lived 250 years ago in the time of Adam Smith. (p. 262)

Turgot noted we should not assume it is possible to regulate away “all possible malpractices” because it could only be done if you also prevented innovation. (p. 262)

Further, he recognized the problem of government being fallible since it is just made up of people as the field of Public Choice enshrined 200 years later.

It means forgetting that the execution of these regulations is always entrusted to men who may have all the more interest in fraud or in conniving at fraud since the fraud which they might commit would be covered in some way by the seal of public authority and by the confidence which this inspires in consumers…

Thus, with obvious injustice, commerce, and consequently the nation, are charged with a heavy burden to save a few idle people the trouble of instructing themselves or of making inquiries to avoid being cheated. To suppose all consumers to be dupes, and all merchants to be cheats, has the effect of authorizing them to be so, and of degrading all the working members of the community. (p. 262)

We give ourselves a false sense of security that we are being protected by government so we do not take our responsibility to protect ourselves seriously. Then we are surprised when it all blows up because government is just regular people who make mistakes like us all.

However, those in government liked the Nudge theory since it obviously empowered them. Cass Sunstein, Thaler’s coauthor in the Nudge book, served in the Obama administration as head of the White House Office of Information and Regulatory Affairs.

Thaler was hired by the British government as a consultant to set up a Behavioral Insight Team, or “nudge unit.” (p. 263)

The theory seems to have worked out well for them and other government policymakers.

In the next blog, we will look at the inherent difficulties the government policymakers face in managing the economy.

Reference: Foster, Peter, 2014. “The Darwin Wars” Chapter 12 of Why We Bite the Invisible Hand, Pleasaunce Press.