Back in the dim and distant days of early last year, conventional wisdom held that the multi-trillion US dollar build-up of complex debt deals was making the world more prosperous. The more risks were traded the better, orthodox economists reckoned. Their reasoning started with the atom of their science, rational economic man. If — through the smoldering wreckage of Fannie, Freddie, Lehman and the rest — rational economic man is still visible, then he is surely due for a kicking. In Basic Instincts, Pete Lunn metes it out with aplomb.
A trained neuroscientist, Lunn came to economics late, bringing with him the psychologist’s belief that the first step in under-standing how people operate is to watch them behave. He was surprised to discover instead that economists found their theories on a set of assumptions — namely, that people are rational agents, with independent and well-defined goals, which they pursue with intelligence, selfishness and consistency.
These assumptions are not made out of stubbornness: the aim is to simplify the economic terrain in the hope of charting a way through it. But as well as making their mathematical models add up, the assumptions encourage the superstition that the market runs as if governed by a benign invisible hand. After all, whenever rational man trucks, trades and barters, he knows exactly what he is doing, and so always comes away better off. And when he and his friends haggle over rewards and risks in the financial markets, those risks end up being carried by those who can best bear them, an outcome that seemed rather more plausible 18 months ago than it does today.
Proceedings begin with Lunn bumbling round town in search of new clothes. He records uncertainty about the sort of look he is after, confusion about what he can afford, and an uneasy awareness that he may have been brainwashed by fancy branding. These aspects of high-street alienation are familiar to most of us but none of them would afflict homo economicus, for whom shopping is always a pleasure. It is a neat way to draw readers into an abstract discussion, and is typical of the rest of the book, which breezily mixes readable summaries of econometric evidence with insights from Gulliver’s Travels and intriguing factoids about Pacific islands where the sole form of currency consists of stones that are too big to move.
We are taken on a tour of two towns, Marketopia, which is populated by the solipsistic individuals of the textbooks, and Muddleton, which houses more familiar folk. There is no place for kindness or keeping up with the Joneses in Marketopia, but Basic Instincts sets out burgeoning evidence that both envy and altruism do affect financial dealings in the real world. When researchers give subjects money and offer them the chance to donate some of it to an anonymous third party, subjects are frequently generous. A twist in the experiment allows the third party to reject derisory offers to share the cash, which causes all the money to be surrendered, so that both subjects walk away with nothing. An economically rational third party would always rather have some money than none, and so would never go down this road. But seeing someone else walk away with an unfair share, real third parties develop a taste for revenge that makes them perfectly willing to cut off their nose to spite their face.
Mistakes, Misinformation, Surprise, Luck, Events and Dishonesty combine to produce an economic world where, Lunn explains, there is every chance of being MISLED. Face up to that uncertainty, and rational man’s habit of endlessly shopping to indulge his own whims at a bargain price starts to look less smart. Instead, people might sensibly stick with what they know — or decide to take a close look at what other people are doing, and then run with the herd.
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