Posts Tagged ‘importance of understanding human behavior’

Ronald Coase versus Thomas Sargent for the Nobel Prize in Economic Science

December 7, 2011

“consider how one might study how participants in financial markets form and revise their expectations.  You might start with the extensive literature on learning created by psychologists and educators.  You would interview analysts and traders, hoping to understand what kind of information they used, how they processed that information, and how their views of the future evolved.  These investigations would suggest hypotheses that could be tested against actual future behaviour.  This approach would not get a research grant, or even a job, in a good economics department.” John Kay, ‘Horses for courses: how to pick the right market model’, Financial Times, December 7, 2011

Instead, reputable modern economists retreat into a process of introspection, asking themselves: ‘how would I behave if I were a rational agent in a world populated by other rational agents, and I knew everything about the world except for the values of particular parameters.

“You might be shocked and surprised to learn that the economists who built these models regard their approach as the only valid economic way of looking at the world, and dismiss others as unscientific.  And you might be surprised that the principal exponent of this approach – Thomas Sargent – has been to Stockholm this week to receive a Nobel prize for his work.”  John Kay, ibid.

Yet, a number of years ago, this same Swedish Academy awarded the Nobel Prize to Ronald Coase, an economist who carefully examined behavior in the real world as a basis for formulating a theory concerning the nature of the firm and the forces that determine its size and organization. Coase’s careful study enabled economists to understand why General Motors solved the problem of organization design in one manner, whereas Japanese car manufacturers utilized a significantly different approach.  Central to such an important insight was the concept of transaction costs – a concept that pretty much has been tossed out of consideration by Thomas Sargent.

The anthropologist Edward Evans-Pritchard described the fallacy of  ‘if I were a horse’. Since we have not been, and never will be, horses, our speculations are unlikely to connect with reality.  We should not use categories derived from our own experience to interpret behaviour in a different culture and environment….Before I hired a horse doctor or horse trainer, I would always ask: ‘Have you ever seen a horse?’ ” John Kay, ibid.

If such indeed was the criterion, the Swedish Academy, and all good economics departments, surely would have hired  Ronald Coase. Thomas Sargent would have been a much more problematic entity.

 


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