Misbehaving: The Making of Behavioral Economics (16 page)

‡
   If we take a longer-run problem, such as saving for retirement, then the story gets more complicated, and I would move a bit further toward Modigliani. See the discussion of the behavioral life-cycle hypothesis just below.

§
   When Robert Barro and I were at a conference together years ago, I said that the difference between our models was that he assumed that the agents in his model were as smart as he was, and I assumed they were as dumb as I am. Barro agreed.

¶
   Or, as my Cornell colleague and good friend Tom Gilovich said to me: “I never cease to be amazed by the number of convenient null hypotheses economic theory has given you.”

12

The Planner and the Doer

W
hen I starting thinking seriously about self-control problems, there was little in the economics literature upon which to draw. Like most graduate students, I knew nothing about the early scholars whose work was discussed in the previous chapter. Graduate students rarely read anything written more than thirty years ago. And there was not much new going on either. However, I did find myself motivated by the work of three scholars: one economist and two psychologists.

Robert Strotz, an economist at Northwestern University, wrote the only economics paper on self-control I found. Although many economists had been using the discounted utility model Samuelson had formulated, few aside from Strotz had paid any attention to his warnings about time inconsistency.

In this paper, published in 1955, Strotz took a deep dive into the problem, investigating the mathematical properties a person’s preferences had to satisfy to ensure that once he makes a plan, he will not want to change it. We need not dwell on the technical details of the paper. Suffice to say that there was only one highly specific case (exponential discounting) in which one could be sure that people would be time-consistent, and, like Samuelson, Strotz worried that these conditions would not be met.

These worries led Strotz to engage in what has become an obligatory discussion of Homer’s tale of Odysseus and the Sirens. Almost all researchers on self-control—from philosophers to psychologists to economists—eventually get around to talking about this ancient story, and for once, I will follow the traditional path.

Recall the setup. The Sirens were an ancient version of an all-female rock band. No sailor could resist the call of their songs. But any sailor who submitted to the temptation of trying to steer his ship close to the rocks would find himself shipwrecked. Odysseus wanted to both hear the music and live to tell about it. He devised a two-part plan to succeed.
*
The first part was to make sure that his crew did not hear the Sirens’ call, so he instructed them to fill their ears with wax. The second part of the plan was to have his crew bind him to the mast, allowing Odysseus to enjoy the show without risking the inevitable temptation to steer the ship toward the rocks.

This story illustrates two important tools that people use to confront self-control problems. For the crew, the strategy was to remove the cues that would tempt them to do something stupid. Out of sight, out of mind. For himself, Odysseus chose a
commitment strategy
: he limited his own choices to prevent self-destruction. It was his version of removing the bowl of cashews. Strotz confessed to employing a commitment strategy himself, to accommodate his academic calendar year pay schedule: “I select the option of having my annual salary dispersed to me on a twelve- rather than nine-month basis, although I could use the interest!”

By the time I was thinking about self-control problems in 1978, Strotz’s paper was already more than twenty years old, and there was no one else in economics who seemed interested (though Tom Schelling would soon chime in). I turned to psychology for inspiration. Surely, I thought, there would be a vast literature in psychology on delay of gratification. Dead wrong. Although many psychologists are now interested in self-control problems, in the late 1970s that was not the case. But I did unearth two treasures.

The first was the work of Walter Mischel, which is now quite well known. Mischel, then at Stanford, was running experiments at a day care center on the school’s campus. A kid (age four or five) was asked into a room by the experimenter and given a choice between a small reward now and a larger reward a bit later. The rewards were treats such as marshmallows or Oreo cookies. The child was told that he could have one Oreo right now, or any time he wanted it, but if he could wait until the experimenter came back, he could have three Oreos. At any time the kid could ring a bell and the experimenter would return and give him the small reward.

Most of the children found this task excruciatingly difficult, but the circumstances in which the child was waiting mattered. In some versions of the experiment the treats were on a plate right in front of the kid. The sight of those Oreos had the same effect on most children that the Sirens’ tunes had on Odysseus. Waiting time averaged barely over a minute. But if the rewards were out of sight (and thus more out of mind), the average kid could hold out for eleven minutes. Children also could wait longer if they were told to think about something “fun” instead of the reward itself.

The earliest of these experiments were run in the late 1960s and early 1970s. About ten years later, as an afterthought, Mischel and his colleagues thought it would be interesting to see what had happened to the children who had been the subjects in these experiments, so they tracked down as many of the 500 or so original participants as they could find, and eventually found about a third of them who agreed to be interviewed once a decade. Somewhat surprisingly, the amount of time a kid waited in one of those experiments turned out to be a valid predictor of many important life outcomes, from SAT scores to career success to drug use. This was a particularly surprising result, because Mischel himself had done considerable research showing that so-called personality traits were not very useful in predicting behavior, even in the present, much less the future.

Mischel has priceless videos from some of the early experiments that demonstrate the difficulty kids had in exerting self-control. There is one kid I am particularly curious about. He was in the toughest setup, in which the bigger prize, three delicious Oreo cookies, was sitting right in front of him. After a brief wait, he could not stand it anymore. But rather than ring the bell, he carefully opened each cookie, licked out the yummy white filling, and then put the cookie back together, arranging the three cookies as best he could to avoid detection. In my imagination, this kid grows up to be Bernie Madoff.

The other behavioral scientist whose work captured my attention was a practicing psychiatrist named George Ainslie who was doing research in his spare time, while holding a job treating patients in a veterans’ hospital. In a paper published in 1975, which I had studied carefully during my year at Stanford, Ainslie summarized everything academics knew about self-control at the time.

I learned from Ainslie that there existed a large literature studying delay of gratification in nonhuman animals such as rats and pigeons. In a paradigm similar to Mischel’s, experimenters would give an animal a choice between a small, immediate reward and a delayed, larger reward. The animals had to press (or peck) a lever to get a reward, and, after extensive training, they would learn the length of the delays and amounts of food they could expect from pressing one lever or the other. By varying the delays and sizes of the rewards, the experimenter could estimate the animals’ time preferences, and most studies found that animals display the same discounting pattern that leads to preference reversals in humans. Animals discount hyperbolically, and have self-control problems too!
†

Ainslie’s paper also provides a long discussion of various strategies for dealing with self-control problems. One course of action is commitment: removing the cashews or tying yourself to the mast. Another is to raise the cost of submitting to temptation. For example, if you want to quit smoking, you could write a large check to someone you see often with permission to cash the check if you are seen smoking. Or you can make that bet with yourself, what Ainslie calls a “private side bet.” You could say to yourself, “I won’t watch the game on television tonight until I finish [some task you are tempted to postpone].”

A
rmed with the insights of Strotz, Mischel, and Ainslie, I set out to create a conceptual framework to discuss these problems that economists would still recognize as being economics. The crucial theoretical question I wanted to answer was this: if I know I am going to change my mind about my preferences (I will not limit myself to a few more cashew nuts, as I intend, rather I will eat the entire bowl), when and why would I take some action to restrict my future choices?

We all have occasions on which we change our minds, but usually we do not go to extraordinary steps to prevent ourselves from deviating from the original plan. The only circumstances in which you would want to commit yourself to your planned course of action is when you have good reason to believe that
if you change your preferences later,
this change of preferences will be a mistake.

Removing the cashews is smart because eating the entire bowl will ruin your appetite, and you would rather not have your dinner consist entirely of cashew nuts. Likewise, a smart kid who participated in one of Mischel’s experiments would be wise to say to the experimenter, “Next time you have Oreos to give away, please do not offer me the ‘one cookie now’ option, or even mention the word Oreo. Just wait fifteen minutes and bring me my three cookies.”

At some point in pondering these questions, I came across a quote from social scientist Donald McIntosh that profoundly influenced my thinking: “The idea of self-control is paradoxical unless it is assumed that the psyche contains more than one energy system, and that these energy systems have some degree of independence from each other.” The passage is from an obscure book,
The Foundations of Human Society.
I do not know how I came by the quote, but it seemed to me to be obviously true. Self-control is, centrally, about conflict. And, like tango, it takes (at least) two to have a conflict. Maybe I needed a model with two selves.

As intuitively appealing as this idea was to me, any sort of two-self model had the disadvantage of being considered radical in economics but passé in psychology: not a great combination. Few economists, including me when I was getting started on this work, were aware of Adam Smith’s discussion of the battle between our passions and our impartial spectator. To most the idea just seemed wacky. Academic psychologists at that time were no longer much enamored of Freud with his id, ego, and superego, and the two-system view that is now very much in vogue had yet to emerge.
‡
With much trepidation, I quietly trotted out the idea among friends. A sketch of the concept appeared in my “Toward a Positive Theory of Consumer Choice” paper, but I knew I needed something more formal, which in economics means a credible amount of math. I recruited Hersh Shefrin, a mathematical economist who was at the University of Rochester at the same time I was there, to join the effort.

Hersh was the first of many coauthors I have worked with over the years. When we began talking about these questions, his chief qualifications were that he was good at math and he did not think my ideas were completely crazy. The latter was more important, since economists who are better at math than me are easy to find. In many ways Shefrin and I were polar opposites. Hersh was serious, meticulous, studious, and religious, including being a student of the Talmud, the encyclopedic compendium of ancient Jewish scholarly writing. I had none of those qualities, but we still managed to get along well. Most importantly, Hersh laughed at my jokes. We worked together in the way I had seen Amos and Danny work, through endless talking. And when it came to writing our first paper, we would talk through each sentence, just as I had watched them do. Although we began our conversations while we were colleagues at Rochester, I soon moved to Cornell and Hersh departed for sunny California at Santa Clara University, not far from Stanford. We wrote just two papers together, but Hersh got hooked on doing behavioral economics and soon formed a highly successful collaboration with Meir Statman, a colleague at Santa Clara, doing research on behavioral finance.

Our model is really based on a metaphor. We propose that at any point in time an individual consists of two selves. There is a forward-looking “planner” who has good intentions and cares about the future, and a devil-may-care “doer” who lives for the present.
§
The key question for any model of this behavior was deciding how to characterize interactions between the two. One possibility would be to make the planner and doer players who interact as competitors in a game, using the branch of mathematics and economics called game theory as the core model. We rejected this idea because we did not think that the doer engages in strategic behavior; he is more of a passive creature who simply lives for the moment. He reacts to what is in front of him and consumes until sated. Instead, we chose a formulation based on the theory of organizations, namely a principal–agent model. In this choice we were undoubtedly influenced by the fact that agency theory, as it was called, was a focus of discussion at the University of Rochester Graduate School of Business while I was teaching there. Michael Jensen and the then dean of the school, William Meckling, had written a famous paper on the topic in 1976. I was not sure that they would approve of this application of their ideas, but that was part of the fun.