463. Human nature

 Economists adopt a limited, highly stunted view of human nature, even while not actually believing in it. They are geared to think in terms of rational choice between alternatives, but people are very limited in their rational evaluation, for good cognitive reasons. Recent debates on the limits of free will, or even its absence, indicate how limited the rationality of our choices is. See also the previous item in this blog.

Economists further assume that people are driven only by self-interest. Many economists recognize that in markets there is collaboration next to competition, but here collaboration is still driven by self-interest, though this includes enlightened self-interest in which one makes sacrifices for others as long as in the end it yields net advantage for oneself. There is still no room, most economists think, for altruism, which may be detrimental to material self-interest. The argument is that competition is too harsh, too ‘perfect’, as economists would call it, to allow for any compromise on maximum profit or minimum cost. The firm would not survive if it did not grasp every opportunity for higher profit. I disagree.

As I argued in preceding items in this blog (e.g. 46), the human being has an instinct for both self-interest for the sake of survival, and altruism for the sake of social legitimacy and cohesion, with a corresponding ‘moral’ sense of normativity next to self-interest. Furthermore, competition is seldom so harsh that survival requires maximum possible profit. Product differentiation, segmentation of markets, innovation, and durable competitive advantage due to specialized, difficult to imitate knowledge and other assets, yield some slack to take other objectives into account.

The conduct of people is also determined, to a large degree, by behavioural phenomena of social interaction such as studied in social psychology. Group cohesion can have both beneficial and detrimental effects (see item 48 on immorality of the group). Time and time again economists, except Keynes, also neglect other sociological effects such as herd conduct, which leads to bubbles and their burst and indeed was a major factor in the current financial crisis.

I propose that for a proper understanding of markets we must include insights into the limits of rationality, psychology and sociology, processes that entail radical uncertainty, and the role of institutions. To some extent these can be found in non-standard economics, such as behavioural economics for limits of rationality, evolutionary economics for processes that are not based on rational foresight, and institutional economics. However, for sufficient depth and coherence of insight we must move beyond economics into the areas of cognitive science, social psychology, sociology, and philosophy rather than having heterodox economists re-inventing wheels in primitive ways, in those areas.

The partnering of economics and psychology is not new: it was there in the early economics of Adam Smith, who in his work on morality recognized an inability of people to focus on the long term, a concern for the well-being of others, in what he called sympathy, a tendency to overestimate one’s own abilities, and an inclination to underestimate risks. Let us return to this wider view of human conduct.