Behavioral Economics, Ep. 4: Should Someone Nudge You Into Making A Decision?
Here’s how you help free people make the best choices.
Free market economists argue that people should be left alone to make decisions for themselves, but sometimes, specialized knowledge is required to make a decision that most people just don’t have. Is there a way to encourage people to make what is, for most of them, the right choice without forcing all of them to make that choice? The answer is what economists call nudging. Professor Antony Davies of Duquesne University and Erika Davies of George Mason University explain. Learn more at http://hayekandchill.com/economics/.
Behavioral Economics (playlist): Heuristics, cognitive biases, public choice– oh my! Watch the entire series to learn more about behavioral economics at http://hayekandchill.com/economics/
Economics Made Easy (playlist): Want to learn more about how the economy works? Check out our playlist for videos on immigration, the minimum wage, and much more!
Predictably Irrational (book): From drinking coffee to losing weight, from buying a car to choosing a romantic partner, we consistently overpay, underestimate, and procrastinate. Yet these misguided behaviors are neither random nor senseless. They’re systematic and predictable—making us predictably irrational.
Nudge: Improving Decisions About Health, Wealth, and Happiness (book): Richard H. Thaler and Cass R. Sunstein’s seminal work on creating policies designed to alter the behavior of individuals to their benefit while still maintaining an element of choice.
“Libertarian” Paternalism? (podcast): Bill Glod of the Institute for Humane Studies critiques concepts such as “Nudge” and other forms of so-called libertarian paternalism.
>> Free market economists argue that people should be left alone to make decisions for themselves. A person knows what is best for himself because only the individual has knowledge of his own circumstances and desires.
>> But what if there were a decision that both required specialized knowledge to make and which most people if they had the specialized knowledge would tend to make in the same direction?
For example, suppose your employer gave you the option of keeping your entire paycheck or putting 5% into a retirement fund and having the employer contribute an additional 5%. Where most people are concerned, the better option is the retirement fund. If all workers had the specialized knowledge necessary to make that choice well, that’s what most would choose.
>> But few workers have the specialized knowledge required to make that choice well. Is there a way to encourage people to make what is, for most of them, the right choice without forcing all of them to make that choice? The answer is what economists call nudging. We can nudge the worker in the right direction by adjusting his default option.
>> For his retirement plan, the worker faces two options. He can choose to participate or he can choose not to participate. But there’s a hidden third option, he can choose not to make a choice at all. Doing nothing is itself a choice. What happens when the worker chooses to do nothing?
Under current law, if the worker chooses to ignore the choice, he is not enrolled in the retirement plan. In other words, the don’t participate option is the default option. Don’t make a choice is the same as don’t participate. By definition, there’s always a default option, it’s what happens when the person does nothing.
The idea behind nudging is that since there is a default option anyway, why not make that default option the option that is better for most people under most circumstances?
>> By changing the default option to participate, the worker would automatically be enrolled in a retirement plan unless he specifically chose to opt out.
Nudging is setting the default option to that which most people would select if they had the knowledge required to make a rational choice. Nudging sounds like a great way to help people make rational choices, but it isn’t foolproof. Those who do the nudging can end up nudging people in the wrong direction.
>> For example, in the United States, the default option is that medical drugs are prohibited unless the government can verify that they are both safe and effective. For someone dying of a disease for which there is no cure, experimental drugs can mean the difference between possible life and certain death.
But experimental drugs have not been shown to be either safe or effective. So their use is largely prohibited. For the terminally ill, this nudge is wrong. It isn’t rational to prohibit someone who is dying from taking an experimental drug because the drug might kill them. The default, the nudge, should be the opposite.
At least for terminally ill people, experimental drugs should be permitted unless the government can demonstrate that they’re harmful.
>> Every choice a human faces comes with a default option. When we can correctly set the default option to be that which most people would pick in most circumstances. We can help people to make rational choices that will be most beneficial to them.
Done incorrectly, nudging encourages people to make irrational decisions. But done correctly, nudging is one way humans can help each other negotiate the sometimes complex decisions we have to make as members of the wondrous adventure we call the economy.