by Richard H Thaler & Cass R Sunstein (Yale, £17.99)
To the contemporary list of endangered species one should add Homo economicus, or "economic man," who for 200 years dazzled economics students with his feats of unbounded rationality and supreme self-control. Homo economicus is an abstraction used by economists in the classical tradition to predict human economic behaviour. He is a "rational maximiser," in that in any given set of conditions, he will successfully pursue his own arbitrary goals to the furthest degree possible, unfettered by indecision, memory loss or lack of willpower.
The first threats to Homo economicus appeared around 20 years ago, when two psychologists, Amos Tversky and Daniel Kahneman, showed that under conditions of risk and uncertainty, people's decision-making exhibited a number of systematic biases and irrationalities that were at odds with the predictions of classical economics. Since then, Kahneman and others have continued to churn out work (Tversky died in 1996) drawing on the findings of experimental psychology to suggest that the predictions of classical economics are at odds with real-world economic behaviour. In 2002, he was awarded the Nobel prize for economics—the first and as yet only non-economist to have been so honoured—for "having integrated insights from psychological research into economic science."
Kahneman claims to have learned his economics at the knee of his regular collaborator, Richard Thaler, now a professor at the University of Chicago. Thaler, along with his law professor colleague Cass Sunstein, is the author of Nudge—a manifesto for the burgeoning field the authors call "libertarian paternalism." It sounds oxymoronic, as the authors acknowledge, but the thinking behind it is coherent enough. It leaves intact the basic tenet of libertarianism—that individuals' choices should not be restricted by outside authority—but uses the insights of behavioural economics to "nudge" people towards making "better" decisions. And, crucially, this means "better" not merely in the eyes of the nudger (often the government) but in the eyes of the chooser, once they are able to consider their options coolly and calmly—in the spirit, in other words, of Homo economicus.
Consider pensions. As corporations and governments become less generous with the pension plans they offer employees, concerns are growing over whether today's generation of workers are saving enough for retirement. Many workers fail to enrol in pension plans or devote only a small slice of their income to them, presumably through inertia. Yet, when asked, a high proportion of these workers say that they know they are not acting in their own self-interest—Thaler and Sunstein cite one study that found that 68 per cent of participants in 401(k) plans, a popular way for American workers to save for retirement, said that their savings rate was too low. There was nothing stopping these people from bumping up their contributions; nothing formal, at least. But inertia, as behavioural economics has shown, can be a force almost as powerful as any official obstacle.
The traditional libertarian has nothing to say about this. The employees' choices are not constrained; they are free to do what they like about their pensions, and if they make a bad decision, then, well, life is tough. But the libertarian paternalist knows that an employee is probably acting against his or her self-interest—and knows how to help. It turns out that in areas like pension decision-making, where inertia is often the rule, the default state matters very much. If the default state is that employees don't enrol, or the default savings rate is very low, then you'll find that most of your employees don't enrol, or don't save enough. So what do you do? You change the default: new employees are automatically enrolled into the plan, and save a higher proportion of their income. You are completely transparent about this, and place no formal impediment in the way of the worker if he or she wants to opt out, or to save less—this is the libertarian bit—but, merely by changing the default, you'll find that you've made a huge difference to the problem of workers not saving enough.
It's an idea that has found an audience on this side of the Atlantic. Adair Turner's recent review of the British pension system included a proposal for automatic enrolment. Organ donation is another example—earlier this year, Gordon Brown, who is known to be interested in Sunstein's work, spoke out in favour of a system of "presumed consent," in which the state would presume that an individual was happy for his organs to be donated after death unless he or she had explicitly opted out—the opposite of the current "opt-in" system.
Aside from its intrinsic interest, there are two reasons to care about this book. First, it is a serious attempt to take lessons from recent work in experimental psychology and to apply them to public policy. Second, both Thaler and Sunstein have close links to Barack Obama's presidential campaign. Obama's policies don't yet show much sign of the Nudge influence, but the "third way" attitude that animates the book chimes well with the post-ideological nature of his campaign. An Obama victory in November could well see the ideas of libertarian paternalism put to the policy test.
