A Humean theory of choice of which rationality may be one consequence

For the reader who considers economic theory of choice as a special case of a more general theory of action, Hume's discussion of the determinants of action in the Treatise of Human Nature (1739?–?40), in the Enquiry on Human Understanding (1748) and in the Dissertation on Passions (1757) deserves attention. However, according to some modern commentators, Hume does not seem to have given any evidence that would favour what nowadays we would consider as the kind of rationality involved in modern theories of rational choice. On the contrary, this paper arrives at the conclusion that consistency between preferences and choice, like the usual properties of completeness and transitivity, may be considered as outcomes of a mental process, described by means of a decision algorithm that aims to represent Hume's theory of choice.     

Pleasure and belief in Hume's Decision Process

Abstract

The purpose of this paper is to introduce explicitly pleasure and belief in what aims at being a Humean theory of decision, like the one developed in Diaye and Lapidus (2005a). Although we support the idea that Hume was in some way a hedonist – evidently different from Bentham's or Jevons' way – we lay emphasis less on continuity than on the specific kind of hedonism encountered in Hume's writings (chiefly the Treatise, the second Enquiry, the Dissertation, or some of his Essays). Such hedonism clearly contrasts to its standard modern inheritance, expressed by the relation between preferences and utility.

The reason for such a difference with the usual approach lies in the mental process that Hume puts to the fore in order to explain the way pleasure determines desires and volition. Whereas pleasure is primarily, in Hume's words, an impression of sensation, it takes place in the birth of passions as reflecting an idea of pleasure, whose “force and vivacity” is precisely a “belief”, transferred to the direct passions of desire or volition that come immediately before action. As a result, from a Humean point of view, “belief” deals with decision under risk or uncertainty, as well as with intertemporal decision and indiscrimination problems.

The latter are explored within a formal framework, and it is shown that the relation of pleasure is transformed by belief into a non-empty class of relations of desire, among which at least one is a preorder.     

David Hume's model of man: Classical political economy as “inspired” political economy

Abstract

The purpose of this paper is to analyse David Hume's model of man. We show that three major elements characterize his representation of man: first the weaknesses and limitations of human rationality; second, the psychological foundations of human behaviour, with a particular focus on the role of association in human cognition; and third, the collective dimension of individual learning through a process of communication based on sympathy. Therefore, we show that the theory of human nature and human cognition Hume proposes is different from the narrow view of man as homo ?conomicus that is used by mainstream economists.     

Back to Buchanan? Explorations of welfare and subjectivism in behavioral economics

In light of behavioral findings regarding inconsistent individual decision-making, economists have begun to re-conceptualize the notion of welfare. One prominent account is the preference purification approach (PP), which attempts to reconstruct preferences from choice data based on a normative understanding of neoclassical rationality. Using Buchanan’s notion of creative choice, this paper criticizes PP’s epistemic, ontological, and psychological assumptions. It identifies PP as a static position that assumes the satisfaction of given ‘true preferences’ as the normative standard for welfare. However, following Buchanan, choice should be understood dynamically as a process whereby preferences constantly regenerate. Accordingly, the meaning of welfare emerges from an ongoing quest for individual self-constitution. If this holds true, then rationality axioms cannot serve as a priori normative standards. Instead, creative imagination and learning processes must remain central to any understanding of welfare in economics.     

Content and method: an epistemic perspective on some historical episodes

The double contrast between allocation and process and between formal proof and empirically based reasoning is selectively applied to the history of economics. Hume's rejection of provable knowledge led to Smith's psychological explanation of science and thence to his theory of growth through the division of labour. Marshall's cautious theorizing and cognitively based evolutionary perspective stimulated contrasting responses from Sraffa and Young. Robinson matched method to content but Chamberlin did not, and Andrews's attempt to develop a process-based price theory met more resistance than Penrose's reinvention of growth theory. We currently observe conflicting methods of handling evolution and business strategy.     

Of clouds and clocks and Keynes: conceptions of reality and the growth of knowledge function of money ∗

In this paper, John Maynard Keynes' General theoryand the concept of money are given an evolutionary interpretation. This interpretation is based on Karl Popper's delightful essay ‘Of clouds and clocks: an approach to the problem of rationality and the freedom of man’. The essay presents two things: Popper's conception of indeterminism and his general theory of abstractions. Popper's general theory concerns the role of abstractions and rule-governed, hierarchical systems of abstractions in structuring an indeterministic and uncertain world. He applies his general theory to science.Popper maintains that science is an abstract, rule-governed, linguistic process that facilitates criticism as a way of learning about our world. Popper calls this the growth of knowledge function of science. Popper's general theory can be applied to Keynes' General theory. Following Popper, I argue for a conception of the economy as a rule-governed, monetary language of commerce that facilitates critically minded inquiry in the domain of ordinary economic transactions. A monetary system facilitates the growth of commonsense knowledge in the economy. I call this the growth of knowledge function of money. An awareness of indeterminism and a growth of knowledge like function of money seem to pervade Keynes' General theory.     

On the Problem of Constructing Rational Preferences

In standard models it is typically taken for granted that preferences are given and defined over the alternatives alone, and the possibility of making a rational choice is a matter of assumption. I generalise this aspect of the economic model so that preferences over alternatives are constructed from given preferences defined over various characteristics of the alternatives under consideration. I characterise the decision problem before investigating what conditions a procedure for aggregating preferences over attributes into preferences over alternatives must satisfy in order for the latter to be rational. I then consider what the implications of these conditions for the procedural rationality of the aggregation process.     

Incomplete preferences and rational intransitivity of choice

Do violations of classical rationality theory imply that agents are acting against their self-interest? To answer this question, we investigate whether completeness and transitivity necessarily hold when agents choose outcome rationally—that is, their choice sequences do not lead to dominated outcomes. We show that, because of the danger of money pumps and other manipulations, outcome rationality implies that agents must have transitive psychological preferences. Revealed preferences, on the other hand, must be complete since agents can be forced to choose from any set of options. But these justifications of transitivity and completeness cannot be combined. We show that if psychological preferences are incomplete then revealed preferences can be intransitive without exposing agents to manipulations or violating outcome rationality. We also show that a specific case of nonstandard behavior, status quo maintenance, is outcome-rational in the simple environments considered in the experimental literature, but not in more complex settings.     

Belief and higher-order belief in the centipede games: An experimental investigation

This paper experimentally explores the epistemic conditions behind people's non-equilibrium behaviour in the centipede games. We propose a novel design of laboratory experiment to elicit people's first- and second-order beliefs regarding their opponents' choices and beliefs. The measured beliefs, together with the choice data, help us to estimate people's level of rationality, belief of rationality and second-order belief of rationality. To examine how these epistemic variables are affected by the social-efficiency property of the classic increasing-sum centipede game, we revisit the constant-sum centipede and compare the measured epistemic conditions from the constant-sum with those from the classic centipede. We find that people's non-backward induction behaviour may be attributed to the diffusion of beliefs and higher-order beliefs in the increasing-sum centipede. We consider a behavioural model in which people's preferences for social efficiency are incorporated into the extended utility maximization problem. Our analytical and estimation results indicate that the presence of efficiency-oriented players and people's belief towards the uncertain portion of such type of players may play a part in the non-backward-induction outcomes in experimental centipede games.     

When Are Investors Rational?

Taking our cue from certain recent advances in experimental psychology, the authors propose a plausible theory of conflict between rationality and inherent behavioral biases of investors. In this theory no investor is fully rational or fully behavioral at all times. An investor faces a continuum between behavioral and rational positions. A movement toward rationality is a choice; it is costly to be fully rational which requires serious mental calculations. On the other hand, there could be some benefits to rationality in special circumstances that compensate for the costs. Using a unique and extensive investor-level database, the authors show that the degree of nonrationality decreases as rational behavior becomes more attractive. In the empirical setting, the proxy for rational behavior is investor's use of private predisclosure information during earnings announcement periods, while the disposition effect they display serves as an estimate of their behavioral bias. The paper contributes to the existing literature in several dimensions.     

Theoretical Issues of Gender in the Transition from Socialist Regimes

Institutional economics is often presented by its critics as a tradition in political economy purporting a mechanistic, robot-like, view of the human agent. In this paper this portrayal of institutional economics is rejected and choice is reclaimed for institutionalism. In fact, institutional economics is not committed to an understanding of behavior as mere stimulus-response. Notwithstanding the fact that institutionalism places great emphasis on habit in human conduct, this does not mean that it excludes autonomy, volition or rationality.

The paper addresses the notion of habit within the pragmatist-institutionalist tradition with the aim of clarifying this concept, disentangling it from current misconceptions. With the intention of contributing to the development of a theory of choice in institutionalism, it then deals with deliberation and choice in the pragmatist literature, namely in John Dewey's Human Action and Conduct. Finally, the implications of deliberation thus conceived, namely in respect to collective action and institutional change, are highlighted.     

TARIFF FORMATION IN A MULTIDIMENSIONAL VOTING MODEL*

The theory of endogenous trade policy formation argues that tariffs emerge from the political process. This occurs because of conflicting economic interests trying to redistribute income in their favor through the adoption of suitable trade policies. Mayer and Riezman (1987) questioned this view arguing that if individuals differ only in factor ownership they would always prefer some tax/subsidy policy to tariffs. Here we allow individuals to differ not only with respect to factor ownership, but also with respect to consumption preferences and income tax treatment. We show that tariffs might be the social decision even though nobody's individual preferences suggest tariffs as the best choice.     

Grading the performance of market indicators with utility benchmarks selected from Footsie: a 2000 case study

The suitable choice of a benchmark portfolio is a critical problem prior to using the information ratio, as the performance ranking of funds depends on this choice. In this paper, a method to optimize benchmark selection taking account of the investor's preferences is proposed and applied to a case study of performance for 29 market indicators on stock exchanges throughout the world. The method that relies on recent results in optimization theory requires defining the opportunity set to select the benchmarks, this set being Footsie in the case study. The computational process and numerical results are presented through tables and figures, the accuracy of the method being also numerically tested.     

Normative ecological rationality: normative rationality in the fast-and-frugal-heuristics research program

The purpose of this paper is to examine the normative interpretation of the fast-and-frugal research program and in particular to contrast it with the normative reading of rational choice theory and behavioral economics. The ecological rationality of fast-and-frugal heuristics is admittedly a form of normative naturalism (Gigerenzer and Sturm 2012) – it derives what agents “ought” to do from that which “is” ecologically rational – and the paper will examine how this differs from the normative rationality associated with rational choice theory. I will also attempt to assess the relative adequacy of normative ecological rationality.     

Praxeology,Experimental Economics and the Process of Choice: F.A. Hayek and Vernon Smith on the Misesian Action Axiom

Mises’s action axiom postulates that human action is purposeful behavior. While this axiom is the building block for a powerful methodology, it is also incomplete, because it sets aside the underlying processes of decision-making. And while Mises does not dismiss the gap between intention and action, he is silent on it, relegating such a study to psychology. We contend that a study of underlying thought patterns and the process of choice – rather than contradicting praxeology and the action axiom – in fact complements the writings of Mises. To demonstrate this, we look at two authors: F.A. Hayek and Vernon Smith. Hayek’s theory of the sensory order sheds light on the process of choice, and explains how decision-making is contextually embedded. Smith’s concepts of ecological rationality and neurological “hard-wiring” help us understand decision-making. We argue that cognitive foundations enrich our understanding of the process of choice, and thus of the Misesian action axiom.     

Adaptive Preferences and Capabilities: Some Preliminary Conceptual Explorations

The Capability Approach (CA) as developed by Amartya Sen and Martha Nussbaum, has in part been a response to the problem of adaptive preferences. Their argument says that people might adapt to certain unfavorable circumstances and any self-evaluation in terms of satisfaction or happiness will in this case necessarily be distorted. To evaluate people's well-being in terms of functionings and capabilities guarantees a more objective picture of people's life. Next to this strong criticism on subjective measurements of well-being, we observe an increasing interest in Subjective Well-Being (SWB) or Happiness studies that are included in the broader field of Hedonic Psychology. In this paper, we thus revise the original critique of adaptive preferences and compare it with a more detailed analysis of adaptation as it is presented in hedonic psychology. It becomes clear that adaptation can be a positive as well as a negative phenomenon and that the adaptive preference critique had a particular narrow view on adaptation. However, this does not mean SWB-research is not any longer susceptible to this critique. An alternative way to assess people's subjective well-being, but which could be considered to be more in line with the CA, is proposed by Daniel Kahneman's Objective Happiness. These are all relatively new considerations, especially in economics. Therefore much more research needs to be done on the positive and negative aspects of adaptation to understand its consequences on well-being – especially when evaluated within the capability-space.     

ON DETAIL‐FREE MECHANISM DESIGN AND RATIONALITY*

Mechanism design theory has been criticized, because mechanisms depend on the detail of specification and agents’ behaviour relies on strong rationality assumptions. Hence the study of “detail‐free” mechanism design with weak rationality is important as a practical theory. This paper emphasizes that, even if we confine our attention to detail‐free mechanisms with weak rationality, there exists plenty of scope for the development of new and significant ideas. I describe my recent work along these lines, and argue that stochastic decisions work in large double auction environments, and that moral preferences improve the implementability of social choice functions.     

Logic,rationality and knowledge in Ramsey's thought: reassessing ‘human logic’

This paper reconsiders Frank Ramsey's essay on subjective probability (1926) as a consistent way to articulate logic, rationality and knowledge. The first part of the essay builds an axiomatic theory of subjective probability based on ‘formal logic’, defining rationality as choice-consistency. The second part seems to open up different horizons: the evaluation of degrees of belief by ‘human logic’. Because of the interest Keynes (1931) had taken in ‘human logic’, it was considered to be a possible alternative to the formal logic underlying the neoclassical theory of individual behaviour. The analysis of Ramsey's method in the entire paper, the relation between logic and rationality it constructs and the conception of uncertainty it reveals, lead me to note on the contrary that Ramsey's human logic was a complementary logic rather than an alternative to formal logic. Defining a standard to evaluate beliefs formation according to a frequentist criterion, it completes a normative representation of rationality which supports an original theory of knowledge that appears more in line with further developments of neoclassical methodology than with Keynesian economics.     

Against the current: Sraffa's unpublished manuscripts and the history of economic thought *

The paper throws some new light on Sraffa's contribution, using material from his yet unpublished papers. Attention focuses on Sraffa's rediscovery of the distinct character of the classical theory of value and distribution and his refutation of the Marshallian interpretation that it is only a special case of demand and supply theory, his reformulation of the classical theory, and his criticism of the alternative neoclassical theory.     

Socio-economic Research in Personnel versus Personnel Economics

This paper argues that personnel economics is still dominated by the assumptions of orthodox microeconomics, and also that newer fields such as transaction cost theory are far removed from socio-economics. Personnel economics is characterised by assumptions of unbounded rationality, stable preferences and functioning markets; power differences are seen as unimportant for explanations. By contrast, a socio-economic perspective works with the assumption of bounded rationality; it takes preferences into account, assumes that markets are characterised by ‘non-equilibrium’ states and power differences. The paper outlines a socio-economic mode of explanation and suggests that any explanation should include assumptions about three theoretical mechanisms: pursuit of utility, power and sense-making.