Modeling Bounded Rationality.

• Author: Friedman, Daniel

By Ariel Rubinstein. Cambridge, MA: The MIT Press, 1998. Pp. viii, 208. $16.95.

The phrase "bounded rationality" is a Rorschach inkblot for economists. To some, including Herbert Simon, who originated the phrase, it is an empirical challenge to study the processes by which actual people make choices and learn from their mistakes. To other economists, bounded rationality is an opportunity to put aside standard formal models in favor of complex computational models or simple verbal models or no models at all. But to Ariel Rubinstein, bounded rationality is an opportunity to explore the formal models more deeply and to uncover strange and wonderful conclusions that follow from tweaking a few of the less realistic standard assumptions.

Rubinstein begins his slim and elegant monograph Modeling Bounded Rationality by explaining its scope and purpose. The book started as class notes for a specialized Ph.D. class and took shape in his 1996 Zeuthen lectures at the University of Copenhagen. Rubinstein excludes the related topics of evolutionary economics and learning and mentions empirical work only as an occasional motivation. The formal models he presents are not intended as definitive replacements for standard models but rather as attractive and thought-provoking samples of what can happen when strong rationality assumptions are relaxed.

Most chapters begin by pointing to a standard rationality assumption that seems problematic. What if a person doesn't have an established preference relation over the set of available alternatives but rather tries to simplify the choices (Chapter 2)? What if a person has imperfect recall (Chapter 4) or blurred perceptions (Chapter 5)? The focus is on isolated individual choice in the first half of the book but then turns to strategic interaction: what if players can't backward induct perfectly (as in solving chess, in Chapter 7) or find it costly to implement complex strategies (Chapters 8-9)? The chapter typically reviews the standard model, presents one or two possible modifications, and works out their consequences in simple cases. Each chapter closes with a brief guide to the published literature and with a class assignment that includes additional readings and research topics as well as routine exercises.

A more or less random example will help convey the flavor. Chapter 7 introduces Luce's choice rule as an alternative to utility maximization: a person chooses action [a.sup.*] in A with probability...