Regulation for conservatives: behavioral economics and the case for "asymmetric paternalism".

• Author: Camerer, Colin
• Position: Preferences and Rational Choice: New Perspectives and Legal Implications

INTRODUCTION

Regulation by the state can take a variety of forms. Some regulations are aimed entirely at redistribution, such as when we tax the rich and give to the poor. Other regulations seek to counteract externalities by restricting behavior in a way that imposes harm on an individual basis but yields net societal benefits. A good example is taxation to fund public goods such as roads. In such situations, an individual would be better off if she alone were exempt from the tax; she benefits when everyone (including herself) must pay the tax.

In this paper, we are concerned with a third form of regulation: paternalistic regulations that are designed to help on an individual basis. Paternalism treads on consumer sovereignty by forcing, or preventing, choices for the individual's own good, much as when parents limit their child's freedom to skip school or eat candy for dinner. Recent research in behavioral economics has identified a variety of decision-making errors that may expand the scope of paternalistic regulation. (1) To the extent that the errors identified by behavioral research lead people not to behave in their own best interests, paternalism may prove useful. But, to the extent that paternalism prevents people from behaving in their own best interests, paternalism may prove costly. (2)

Our purpose in this Article is to argue that in many cases it is possible to have one's cake and eat it too. We propose an approach to evaluating paternalistic regulations and doctrines that we call "asymmetric paternalism." A regulation is asymmetrically paternalistic if it creates large benefits for those who make errors, while imposing little or no harm on those who are fully rational. (3) Such regulations are relatively harmless to those who reliably make decisions in their best interest, while at the same time advantageous to those making suboptimal choices.

We then document existing and potential regulatory responses to decision-making errors that satisfy this criterion. Our paper seeks to engage two different audiences with two different sets of concerns: For those (particularly economists) prone to rigid antipaternalism, the paper describes a possibly attractive rationale for paternalism as well as a careful, cautious, and disciplined approach. For those prone to give unabashed support for paternalistic policies based on behavioral economics, this paper argues that more discipline is needed and proposes a possible criterion.

Historically, the core justification for paternalism arose from skepticism about the ability of certain categories of people to make decisions in their best interest. (4) Beginning in the nineteenth century, this category was comprised of those deemed incapable of contracting for themselves, including, in the words of one leading case, "idiots, minors or married women." (5) Paternalism was the appropriate social response for those who were to be treated ultimately as wards of the state. (6) While our conception of the competence of women has changed markedly, and the "idiot" designation arouses discomfort, this general rationale for paternalism persists.

Our approach accords even better with a second justification for paternalism which focuses on situations rather than persons. A number of regulations reflect the fear that even people of sound mind might not act in their long-term self-interest in certain predictable situations. For example, usury laws and laws against selling oneself into indefinite servitude protect those in desperate economic straits from accepting contracts with potentially devastating long-term consequences. (7) Health and safety regulation of dangerous occupations was based on fears that pressure to provide for one's family might lead people to incur risks deemed unacceptable to the larger society. (8) Regulation of narcotics may stem from concerns that narcotics have the capacity to turn ordinarily functioning people into the equivalent of "minors" or "idiots." (9)

Recent developments in the social sciences have provided new foundations for paternalism. The latest entrant into the paternalism debate comes from the introduction into legal analysis of developments in behavioral economics. By cataloging a list of common decision-making errors that even highly competent, well-functioning people make in predictable situations, this research potentially broadens the scope of situations in which paternalistic policies could usefully be developed.

This Article, and our pursuit of an approach we term "asymmetric paternalism," reflect trepidations shared among all of the authors about the use of behavioral research to justify paternalistic policies. We have two major concerns. First, while research in behavioral economics documents common mistakes, those mistakes are typically far from universal, (10) and we worry that paternalistic policies may impose undue burdens on those people who are behaving rationally in a particular situation. Second, behavioral economics is in an early stage of development, and therefore its findings should elicit more caution than those from more "mature" fields (which are by no means themselves invulnerable to revision). These and related concerns suggest caution in promoting paternalistic policies at this stage and lead to our more conservative notion of asymmetric paternalism. (11)

1. BOUNDS ON RATIONALITY AND BEHAVIORAL ECONOMICS

   The standard approach in economics assumes "full rationality." While disagreement exists as to what exactly full rationality encompasses, most economists would agree on the following basic components: (12) First, people have well-defined preferences (or goals) and make decisions to maximize those preferences. Second, those preferences accurately reflect (to the best of the person's knowledge) the true costs and benefits of the available options. Third, in situations that involve uncertainty, people have well-formed beliefs about how uncertainty will resolve itself, and when new information becomes available, they update their beliefs using Bayes's law--the presumed ability to update probabilistic assessments in light of new information. (13)

   Behavioral economics challenges all of these assumptions and attempts to replace them with more realistic approaches based on scientific findings from other social sciences. (14) Its development in the past two decades can be traced to two parallel, complementary intellectual lines of research. One line of research consisted of experimental work by cognitive psychologists who began to identify a wide range of decision-making "anomalies"--patterns of judgment and choice that were inconsistent with utility maximization and/or Bayesian updating--and to identify cognitive shortcuts or "heuristics" that could potentially account for the anomalies. (15) The second, parallel effort was conducted by economists who felt the rational choice paradigm should be extended to account for normal bounds on rationality, while maintaining the emphasis on formal rigor and field applications that sets economics apart from some other social sciences. (16) Cognitive psychology provided ideal raw material that could be used to inform new theories of economic choice.

   One can distinguish two phases, or "waves," in the modern (post-1980) history of behavioral economics. The first wave identified a variety of disparate phenomena that were all anomalous compared to rational choice predictions, but which otherwise had little in common. (17) As a result, early critics of behavioral economics often complained that it was just a laundry list of departures from rational choice. The second wave is now gathering force and it represents a scientific consolidation that addresses this critique. (18) Precise functions that add one or two free parameters to standard rational theories are being applied to explain important anomalies and make fresh predictions.

   Some research in behavioral economics has focused on how people's preferences are not what economists had supposed. For instance, in evaluating risky gambles over uncertain outcomes, people seem disproportionately averse to losses, and also dislike choosing in the face of "ambiguity" (knowing that they are missing information that would, if available, affect their decision). (19) As another example, people seem to have social preferences that cause them to care about more than merely maximizing their own material payoffs. (20) These developments challenge the descriptive validity of standard economic models, but they do not raise questions about the rationality of economic behavior. To the extent that such tendencies accurately reflect true preferences, they do not create a need for paternalism. (21)

   But a large part of behavioral economics describes ways people sometimes fail to behave in their own best interests. For instance, a substantial body of literature examines how people with self-control problems may fail to carry out their desired course of action. (22) Another has documented the ways in which people fail to process information as Bayes's rule would require. (23) And a variety of researchers have shown that people exhibit systematic mispredictions about the costs and benefits of choices--for example, the degree of loss aversion exhibited in people's choices seems inconsistent with their actual experiences of gains and losses. (24) It is such errors--apparent violations of rationality--that can justify the need for paternalistic policies to help people make better decisions and come closer to behaving in their own best interest.

   Behavioral economics extends economic theory in a manner similar to other successful extensions. The simplest models in economics assume perfect competition, perfect information, and perfect rationality. These boundary cases are obviously unrealistic much of the time, but can yield plain insight and useful approximations. Furthermore, gradually relaxing each of these strict assumptions has proved productive...