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Saturday, May 26, 2007

Libertarian Paternalism: Tell Me about It

There is a new Wall Street Journal Econoblog on "libertarian paternalism." Here's the introduction to the discussion:

Econoblog: Nudging as Policy, by Mario Rizzo and Richard Thaler, WSJ [alternate open link]: Should Policies Nudge People To Make Certain Choices? Driven by research in behavioral economics that suggests people don't always act in their own best interests, some economists are arguing for new policies that would challenge traditional "hard" tools for changing behavior, such as sin taxes and outright bans.

Such policies would often rely on default options that nudge, steer and coax -- but don't force -- individuals to make certain choices. Is this sensible governance?

The Online Journal asked Mario Rizzo, director of New York University's Program on the Foundations of the Market Economy, and Richard Thaler, professor of economics and behavioral science at the University of Chicago's Graduate School of Business, to hash it out.

The fourth and last round of the Econoblog summarizes the discussion:

Richard Thaler writes: Let's recapitulate. People make mistakes, so sometimes they can be helped. It is possible to help without coercion. That is libertarian paternalism. The concept can be and is used in both the public and private sectors. For example, in London, pedestrians from abroad are reminded by signs on the pavement to "look right" because their instincts from back home are to expect traffic to approach from the left. No one is forced to look right, but fewer pedestrians are hit by trucks.

Another example comes from Sweden, which launched a partial privatization of their social security system in 2000. The plan was open to any fund, which meant that participants faced 456 options. There was also a very well-designed default fund -- using private managers selected by the government -- that offered global diversification at very low fees (16 basis points). By any standard, both ex ante and ex post, the participants who selected their own portfolio of funds did worse than those who took the default plan. The main mistake the government made in designing this plan was to discourage participants from choosing the default fund, perhaps thinking, as Mario does, that choosing for oneself is always the best approach. ...

Finally Mario seems to have a phobia about slippery slopes. I guess he thinks that if governments start with signs that say "look right," the next thing you know we will have Prohibition coming back. By the same logic, we should worry that if libertarians succeed in eliminating rent control that we will be soon down the slippery slope toward anarchy. Slippery slope arguments should be avoided unless there is proof that the slope is greased. In our case, by insisting, as we do, on only libertarian paternalism, the slope runs into a brick wall before it even gets started. And besides, what is the alternative? Inept neglect?

Mario Rizzo writes: Libertarianism is a political philosophy that seeks to reduce the activities of the state to a very low level. It is very much about less government. Paternalism is a political or moral philosophy that seeks to override the actual or operative preferences of individuals for their own benefit, however defined, according to Donald VanDeVeer's 1986 book on the subject. When applied to the actions of government, paternalism cannot be libertarian. It can only be more or less intrusive.

Does Richard wish to reduce his "libertarian paternalism" to the appropriate management of government-owned streets or other enterprises? In the London case, what people want is obvious: They don't want to get hit by cars. London is doing what entrepreneurs generally do: satisfying actual preferences. London is mimicking the market.

In Sweden, the government actively discouraged people from relying on the default investment option. People probably interpreted this as meaning the default option was not very good. They succumbed to this unfortunate inference because they viewed the government as an authoritative investment adviser. Government provision of investment advice is not consistent with libertarianism. But if it does provide advice, is it paternalistic to provide it in such a way that people make reasonable inferences?...

Richard wants to use the word "libertarian" to differentiate his paternalism from the traditional variants. Yet he uses the word in a fuzzy way. He wants to define libertarian along a continuous variable -- the cost of exercising the exit option. However, libertarianism, as every libertarian understands it, uses a bright-line test -- who imposes the cost? The authors of the concept of "libertarian paternalism" have said that clearly intrusive/coercive interventions are consistent with it. See my previous post. And they have also said, explicitly, that there is no sharp line between libertarian and non-libertarian paternalism. Thus, Richard cannot claim that his standard creates a bright-line rule that would help us resist the slippery slope.

Tyler Cowen comments:

Libertarian paternalism, by Tyler Cowen: There is a new Econoblog, Mario Rizzo vs. Richard Thaler... The phrase "libertarian paternalism" is misleading. It isn't libertarian, but I don't mean this point in the usual "rage against governmental coercion" sort of way. A more consistent Thaler would simply emphasize that both paternalism and coercion are often ill-defined concepts or perhaps matters of degree. Thaler wants to shock us by rejecting non-paternalism but when pressed he denies the underlying distinctions behind his big claim in the first place. In other words, the whole debate should be focused on specific proposals, there is less to the philosophy than meets the eye.

My reaction is very simple. I hate feeling like I'm being manipulated. I want to decide what's best for me, not be manipulated into making choices the government thinks is best. I'm not sure exactly where the line is, but maybe an example will help to make the distinction.

I don't object to the government telling me that vegetables are good for me. That can be interpreted as information, not manipulation (coercion). The government isn't trying to bring about a particular choice, only give me as much information as possible so that I can make the best choice possible for myself.

Where I would draw the line is if the government were to give me a financial incentive to choose carrots over peanut M&Ms - that doesn't just inform, it also attempts to coerce a particular choice (This is a lot like advertising - it can be informative about prices, product characteristics, store locations, etc., or it can be manipulative; also, I'm assuming no externalities, carrots might be subsidized if there are positive societal externalities, e.g. through the health system, from me choosing to eat more of them).

In the case of default options for retirement accounts described in the Econoblog, when there are many plans to choose from I don't object to picking the default option as a safe choice by some metric. If you know that people tend to stay with the default, then the default choice will manipulate the outcome in a particular direction, and thus the default choice should be best for the typical person who will not opt-out.

But be sure to tell everyone exactly what you have done, i.e. tell them explicitly that most people do not opt out of the default choice and because of that the default was set in this particular way. Knowing that, if people choose to stay with the default choice, so be it, but put all the cards on the table.

The same is true of the choice of whether to participate at all. Many retirement plans offered by firms have employees opt-out rather than opt-in to the plans by default, i.e. people are automatically enrolled in the plans when they are hired and must choose not to participate. Since either opt-in or opt-out must be the default, whichever is chosen will coerce the outcome in a particular direction. If a firm goes with an opt-out retirement plan, then it should be sure to tell its employees this is what it has done.

But more importantly, tell them why. Say explicitly that you are making the default choice participation in the program because you know that most people do not opt-out and you believe participation is the best option for most people. For me, it's essential that people be told the behavioral quirk that the program is designed to compensate for, i.e. that they are told what behavioral anomaly or irrationality the program is attempting to exploit. If people can understand how they are being influenced by the program design, then they can avoid being unknowingly coerced in a particular direction and make better choices.

    Posted by on Saturday, May 26, 2007 at 02:34 AM in Economics | Permalink  TrackBack (0)  Comments (21)

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