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Book Reviews
Irrational thinking and bad choices
FREE MARKET MADNESS:
Why Human Nature Is at Odds with Economics—and Why It Matters
By Peter Ubel
224 pp. Harvard Business Press $26.95
Reviewed by Mike Marcoe
If only economists would see things the way behavioral scientists do. For centuries, economists have stubbornly operated on the notion that human beings are rational animals who make rational economic choices that maximize utility while minimizing costs, or that when armed with adequate information people will seek the best possible outcomes for their hard-earned money. Economists have taken as gospel truth these assumptions about human nature, and in turn, these assumptions have guided the evolution of the western economies into the powerhouses that they are.
Yet watch the news and read your history and you’ll find example after example of whole populations of people not behaving rationally. Note the obesity crisis, one that afflicts the people of industrialized nations despite the ironic fact that we are armed with more health information than ever before. Irrational thinking. Bad choices. Are they just a fad, or do they run deeper?
In a related vein, why does the free market barely wince as it provides junk food, tobacco, and other means for people to kill themselves slowly, both here and in emerging markets in the Third World? How likely are your customers to buy your products when they are dying of lifestyle diseases that you helped cause, all in the name of the free market?
It’s questions like these that fascinate behavioral economists who use scientific methodology to explore the psychological and social underpinnings of economic decision-making. Peter Ubel, professor of medicine and psychology at the University of Michigan and a physician and behavioral scientist, explores just how much we are not the rational people we like to think we are in Free Market Madness. Here, neurology, sociology, and psychology lock horns with Adam Smith’s view of man.
Before we can delve into the many fascinating studies he describes, it is important to note that there is a certain amount of rational basis for much of our decision-making. Ubel makes this clear in the early chapters. Good economic decisions boil down to weighing cost and efficiency. But that is exactly what the poor and the obese are doing when they eat processed foods and avoid exercise. Modern living has reduced the costs (time costs, opportunity costs, etc.) of those, as well as increased the costs of healthy living. It is hard to argue with the logic, even while you’re shaking your head as you watch where it ultimately leads—obesity, heart disease, cancer, and out-of-control healthcare costs. Not even adequate information will influence enough of these cost-benefit analyses to make a difference.
The book asks what’s wrong with free market theory? Ubel answers, “It doesn’t take into account our human nature. We humans aren’t entirely rational creatures.” That is the thesis of this book, which he backs up with colorful studies and examples. Being a physician, Ubel looks at the medical aspects of free-market madness most of all. The dangerous nexus of human behavior and the free market deserves more attention than it’s getting from serious researchers. Advertisers have known about our irrational side for some time, pulling many bright psychologists to work for Madison Avenue to get us to buy products that our rational selves warn us we do not want.
Ubel is not a market trasher. He notes that “behavioral economics ... have shown that the market is determined by a much more subtle and fascinating mix of rational and irrational decision making.” He even begins his book with a great example of the way Adam Smith’s free market makes lives like ours so much better.
Then, to illustrate where human thinking typically goes off track, Ubel trots out several fascinating studies and examples such as rebates, Barbie, housing sales, shopping on eBay, healthcare cost transparency, the endowment effect, loss aversion, changes in default options, rent-to-own practices, manufactured scarcity, manufactured value, the bandwagon effect, and the “newer is better” sentiment—many of which are psychological shortcuts to instinctual reactions embedded in the reptilian brain.
These might have a logic all their own, and they may be necessary for survival in some instances, but this isn’t the logic that economists associate with the rational consumer. Ubel even shows with examples that economists are just as vulnerable to being irrational as the rest of us are. In the interest of scientific rigor, it must be said that some of the studies he quotes are victims of dubious design—something very common in the social sciences—and can be subject to a variety of interpretations. But the message is still convincing: we make too many important decisions on irrational grounds, and the effects of those irrational decisions are piling up on us.
Accepting this side of us thus leads to the question of how to protect ourselves from behaviors that can defeat us. Ubel proposes a kinder, gentler role for authority figures, something he calls “soft paternalism.” It’s not as harsh as government control, and it’s not as lax as the free market. It has been shown to work already with Social Security and automatic enrollment in 401K plans, both of which lots of employees have turned out to like after all. He argues for a place for both government and market regulation that is not as severe as socialism.
Our hand in the markets is always evolving. If you fear we’re going to become a French Orwellian socialist hellhole, relax. There’s more than one way to save ourselves. Thanks to the efforts of the behavioral sciences, it is possible to predict how and when we will act in irrational ways. Economists should sit up and listen; this book sounds a warning.
Mike Marcoe is a writer and editor from Middleton, Wisconsin. He specializes in writing personal finance articles and editing scholarly books. He has published over 100 articles, a book on anxiety disorders, and a book of short stories. He has also worked as a chef and a business manager. In his day job, he is the director of content development for the Educated Investor. When not working, he plays a variety of ethnic flutes, cooks vegetarian cuisine, and writes fiction. His Website is http://www.mikemarcoe.com.
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