ALL ABOUT THE DEFAULT OPTIONS:

Econs and Humans: A review of Nudge: Improving Decisions About Health, Wealth, and Happiness, by Richard Thaler and Cass R. Sunstein (Lawrence M. Mead, Spring 2009, Claremont Review of Books)

Economics has traditionally ignored psychology. In Nudge, Richard Thaler and Cass Sunstein take a step toward greater realism about it. Thaler teaches economics at the University of Chicago and was an unofficial advisor to the Obama campaign. Sunstein is a law professor at Harvard and now the head of the Office of Information and Regulatory Affairs in the Obama Administration. The authors start off by differentiating "Econs" from "Humans." The former are the efficient calculators imagined in economic theory, able to weigh multiple options, forecast all the consequences of each, and choose rationally. The latter are ordinary people, who, like the analysts on Wall Street, fall well short of homo economicus. Humans operate by rules of thumb that often lead them astray. They are too prone to generalize, biased in favor of the status quo, more concerned to avoid loss than make gains, among other shortcomings. So they often fail to manage their personal affairs to the best advantage.

Thaler and Sunstein think that ordinary folk should be "nudged" to decide more rationally. A "nudge," as they conceive it, means some change in the "choice architecture" surrounding personal decisions that will cause Humans to choose differently and better, even though an Econ would be unswayed. Often that means changing the default option—the choice made for people if they do not choose. For example, many employees save too little for their retirement because they fail to sign up for 401(k) plans offered by their employers. The authors would change the default from opt-out to opt-in-employees would be enrolled in pension plans unless they said otherwise. Workers would also be encouraged to commit now to pay higher pension contributions in future, if not today. Both steps would raise savings substantially. Another nudge would be to establish better defaults for allocating pension contributions among different investments. Also, many people say they are willing to donate their organs for transplants when they die, yet fail to sign up. Again, the authors would change the default from opt-out to opt-in-people would be presumed willing to donate unless they declined.

The authors say that for Econs, the more choices the better, but Humans should not face too many options, lest they be overwhelmed. Sweden erred in reforming its pension system so that people had to choose among myriad retirement plans on their own, something many did poorly. The authors criticize Medicare for forcing seniors to choose among multiple private plans to get prescription drug coverage. Subscribers should face only a few options based on their prior drug history.

The usual objections to such paternalism are that it is coercive and that those making choices for people can't be trusted. Thaler and Sunstein say that their paternalism is "libertarian": their nudges would allow people to deviate from recommended choices without significant cost. The authors also trust that nudging could and would be publicly justified, not secretive.

Nudge draws on behavioral economics, a branch of economics that studies the limits of rationality.

It's a basic enough idea: the architecture of public policy itself should push people into a channel that achieves the ends of that policy.

Posted by Orrin Judd at June 5, 2009 6:00 AM