Behavioral Economics and Public Policy

David Just and Andrew Hanks have a new paper forthcoming in the American Journal of Agricultural Economics entitled: The Hidden Cost of Regulation (I noticed Marc Bellemare beat me to the punch in discussing his views on the paper).  

This is an important paper in many respects.  As I see it, one of the general problems with the behavioral economics literature is that the findings of behavioral biases (e.g., status quo bias, overweighting low probability risks, loss aversion, present, etc.) are almost always put forth as motivation for more government regulation.  Yet, it is easy to imagine many behavioral economic findings suggesting just the opposite - though that is rarely the conclusion drawn by the authors.

Here's an  example I used in the Food Police

Here is the irony. The behavioral economists have told us for years that humans make mistakes by exaggerating the importance of low-probability risks. Yet, I have not seen a single behavioral economist use this insight to tell the food police to relax and put their fears over growth hormones, genetically modified food, or pesticides into perspective. Instead, we see the behavioral economists partner with the food police to advocate policies they want even if it means ignoring the implications of their own research.

Now, enter the paper by Just and Hanks.  They show that if consumers have a positive emotional attachment to a good that a government policy that attempts to restrict consumption of that good may cause a backlash by causing people to want it even more.

 Think of the Bloomberg large soda ban.  The very action of telling people "you can't have large sodas" makes them want large sodas even more, which makes banning large sodas even more costly in terms of foregone consumer welfare.  They argue that the reverse  may also be true: subsidizing something like healthy food that people feel like they should be consuming more of makes  them want it all the more.  

The general story here is that people's preferences (what they want) may not be independent of the policies government officials pursue.  It is an issue I've studied on a couple of occasions (here and here) with regard to the effects of mandatory labels on genetically engineered food. If people see a mandatory label as information about the risks of genetic engineering, the very presence of a label could make them even more averse to genetically engineered food.  

All this makes the normal sort of "welfare economics" we economists normally do a bit tricky.    Normally we look at the choices (and prices) before a policy is in place and the choices (and prices) after a policy is in place to determine whether consumers are better off with the policy or not.  How do we determine better off?  With a mathematical function derived from the choices people make.  Think of it like: happiness = f(prices, # of options).   But, if a policy changes preferences, then it is hard to know whether the consumer is happier or sadder because, in a sense, they're now a different person that has different tastes and wants.  Not only have prices and number of options changed but the function relating happiness to these factors has changed too.

While the Just and Hanks paper is largely a theoretical paper, I'm please to see a framework put forward for people to seriously evaluate public policies in a fully consistent behavioral economics framework rather than the ad hoc way it's normally done.  I also hinted as this sort of thing in a paper with Bailey Norwood and Stephan Marette where we ran some experiments where people could either choose for themselves or where other's made choices for them (we called the choosers the "paternalist" and the recipients of the choices (or children as Stephan calls them) the "paternalee)".  

One interpretation of these results is that paternalees place an intrinsic value on freedom of choice. This does not necessarily imply that the paternalees’ choices are in any sense “optimal” or that, should paternalees suffer from time-inconsistent preferences, their long-term well-being couldn’t be enhanced by restricting current choices. Nevertheless, if this interpretation is correct, the results suggest that any long-term benefits that might arise from paternalism must be weighed against the loss of freedom of choice.