March 08, 2003

A Brief Dialogue on Behavioral Economics

The Importance of Framing the Issue Properly...

(Even though I was a major participant in this dialogue, it was several years ago. So I have followed the historical methodology of Thucydides: I have written as if each participant said what was appropriate and fitting for the situation, all the while staying as close as possible to the words actually said.)

Time: A warm spring evening at the height of the tech boom.

Place: A chi-chi downtown Palo Alto restaurant.


Stanford Professor and Hoover Institution Fellow Robert Hall: And now for the wine?

Berkeley Professor Brad DeLong: (Looks at wine list.) I'd rather not. They look too expensive for what they are.

Hall: But I'm paying. The Stanford macro seminar is paying.

DeLong: So?

Hall: I'm the one who should be worrying about that, not you. Go ahread and order.

DeLong: Why can't I worry about it?

Hall: Because you're not paying. The price is irrelevant as far as you're concerned. It's all free to you.

DeLong: It's free to me in the sense that buying it doesn't diminish my future opportunities to buy other things. But there's another sense in which it is not free.

Hall: And that would be?

DeLong: We'll order it. We'll start drinking it. I'll think about how we paid three times retail. I'll think about how the restauranteur has taken advantage of his local monopoly power to charge us far more than the market equilibrium value of the wine. I'll feel exploited... taken advantage of.... And the wine will taste like ashes in my mouth.

Hall: You're insane!

DeLong: Possibly.

Hall: Some of these are very, very good.

DeLong: But I won't enjoy them.

Hall: You shouldn't think about how much it cost while you drink it!

DeLong: Are you saying that I shouldn't have the preference function I happen to have?

Hall: I tell you what. Look at this guy. (He gestures to the restauranteur.) Eighty percent of Palo Alto restaurants fail within three years.

DeLong: Yes?

Hall: This guy is working 18 hours a day and sinking his life savings into this enterprise. Yet he's very very poor because he's very likely to go bust and bankrupt.

DeLong: Yes?

Hall: You have the opportunity to transfer some wealth to him, to make him better off, and in the process drink a very very nice bottle of wine.

DeLong: And I should make this transfer because?

Hall: The money transferred comes straight out of the Hoover Institution endowment. Think what else it would be used for, if not to assist a struggling Palo Alto entrepreneur.

DeLong: I see...

Hall: As an ex-Clinton Administration Senior Treasury Official, I think your duty here is clear. You have a strong and unavoidable moral duty to choose a bottle of wine for us to drink...

DeLong: That is a strong point...

Hall: An expensive bottle of wine...

DeLong: I surrender...

Hall: Two expensive bottles of wine...

Posted by DeLong at March 8, 2003 08:45 AM | TrackBack

Comments

And when the federal government has grown to 30% of GDP, this dynamic will be even more apposite.

Posted by: Patrick Sullivan on March 8, 2003 10:18 AM

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Patrick

Please explain. Are you saying that as the government sector or debt expands, private capital is "crowded out?" How are you relating this to the conversation?

Thanks

Posted by: randall on March 8, 2003 10:36 AM

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You do have some great conversations. It reminds of those movies that have good dialogs, where we wish we spoke like them, like, oh, When Harry met Sally.
I hadn't thought of Thucidydes in a while, but his Melian dialog seems strangely apposite today. You remember, where Melos explains why they cannot ally with Athens, and the Athenian ambassador explains why they will therefore wipe them off the face of the earth and sell their women into slavery. You have to hand it to the Greeks, they did explain what they were doing.
It's one of the most crushing passages I have ever read in literature.

Posted by: John Isbell on March 8, 2003 11:07 AM

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You do have some great conversations. It reminds of those movies that have good dialogs, where we wish we spoke like them, like, oh, When Harry met Sally.
I hadn't thought of Thucidydes in a while, but his Melian dialog seems strangely apposite today. You remember, where Melos explains why they cannot ally with Athens, and the Athenian ambassador explains why they will therefore wipe them off the face of the earth and sell their women into slavery. You have to hand it to the Greeks, they did explain what they were doing.
It's one of the most crushing passages I have ever read in literature.

Posted by: John Isbell on March 8, 2003 11:08 AM

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Please delete that second post. Man, this thing took an eternity.

Posted by: John Isbell on March 8, 2003 11:12 AM

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Randall, the conversation is about two parties to a decision discussing it, but an absent third party paying for that decision. It's bad enough that we've got a similar decision making process in 20% (ignoring state and local governments) of GDP today, but the host of this blog is on record as favoring the situation be expanded by up to 50%.

Not a recipe for efficient uses of scarce resources.

Posted by: Patrick R. Sullivan on March 8, 2003 11:24 AM

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You might want to mention that he doesn't favor 50% of GDP in government spending right now, only in the future. You know, when the gain would come entirely out of increased income.

Also, the post is *a joke*. Sheesh.

Posted by: Jason McCullough on March 8, 2003 11:48 AM

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Wow! You right wing guys are really committed to smaller government if you are extrapolating from this conversation to crowding out! Pity your president doesn't seem to share that commitment, once you look beyond the rhetoric.

Brad, you are now on record with Patrick Sullivan as having wastefully drunk a second bottle of wine. I fear for your future in public office.

Posted by: achilles on March 8, 2003 11:49 AM

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That was wonderful! I think I'll print it up and tape it up outside my dorm room. Very funny!

Posted by: Julian Elson on March 8, 2003 12:48 PM

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Wastefully? From Robert Hall's perspective, getting seminar speakers sloshed so they'll have a good memory of their trip to Hoover--and come back and tell Hoover fellow interesting things--is one of the things he's supposed to spend his budget on. And from my perspective, anything that reduces Hoover's endowment probably improves the character of public debate.

It's a win-win situation--once I start framing it not as I'm overpaying for a bottle of wine but as I'm helping a struggling Palo Alto entrepreneur and cutting into the Hoover Institution endowment.

Posted by: Brad DeLong on March 8, 2003 12:49 PM

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Brad

I do love you!

Wonderful post. Wonderful explanation.

Anne

Posted by: anne on March 8, 2003 01:27 PM

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Now I feel really sorry for the entrepreneur. Is he still in business? If he was that would make me feel better.

Posted by: Bobby on March 8, 2003 02:11 PM

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Very amusing!

Posted by: Bob Webber on March 8, 2003 03:31 PM

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>I feel really sorry for the entrepreneur. Is he still in business?

Hell, was the wine French? :)

Posted by: Bucky Dent on March 8, 2003 04:22 PM

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Sheesh, Brad, sucked in by a Hoover supply-sider. If the "invisible hand" is going to work, the restauranteur would learn economies of volume and sell a lot more wine with a less extortionist mark-up. AND stay in business, prosper and be able to hire a manager and stay home with his family.....

Posted by: Melanie on March 8, 2003 04:23 PM

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>>If the "invisible hand" is going to work, the restauranteur would learn economies of volume and sell a lot more wine with a less extortionist mark-up.<<

Ahh, but isn't the demand for wine quite inelastic? After all, the people who frequent such restaurants are usually well-heeled and wouldn't mind paying a bit more...

Posted by: YM on March 8, 2003 04:42 PM

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When you see the kind of conversations posted, remember there is a large selection bias at work. Most conversations among economists tend to be jargon filled and the only humour tends to be of a "geek" variety. So many of them are not very funny, unless you find jokes about different rates of time preferances, relative rates of subsitutions, and Nash equilibriums to be the epitome of humour.

Posted by: Rob on March 8, 2003 04:48 PM

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"So many of them are not very funny, unless you find jokes about different rates of time preferances, relative rates of subsitutions, and Nash equilibriums to be the epitome of humour."

That's because economists, unlike the rest of the population, are already at the optimum sense of humor where d(humor)/d(joke)=0

Posted by: achilles on March 8, 2003 05:06 PM

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One has to wonder what the tip was for the servers and busboys. How generous are the users of OPM for those who really do the grunt work that makes our world work? Do they suddenly become calculating or had there been enough wine to create a spirit of human kinship?

The plot thickens.

Posted by: Sam Taylor on March 8, 2003 07:19 PM

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Ah. But the question to us is, "Who is left holding the bag?"

Posted by: bakho on March 8, 2003 08:00 PM

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The nub of this story is that we know that the wine was expensive, but we don't know if it was any good, let alone worth the expense.

There's an Oxford college story along similar lines, reflecting the British mindset to the extent that a bottle of 1927 Sandemans port may be worth a fair few hundred pounds were one to buy it off the shelf, but to order it from the SCR wine list (even if someone else is paying) is less morally troubling, since the college used its good standing (and continues to do so) in order to be able to buy en primeur, and has essentially amortised the costs by being able to hire academic staff who are at least partly aware that they'll get the opportunity to drink the stuff one day.

Posted by: nick sweeney on March 8, 2003 11:08 PM

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Y'know, I'm always vaguely surprised that our system of tipping in restaurants works at all, and that we don't have service included in cost as in Europe, or as with every other service sold in the U.S. except taxis, some hotel services, and possibly some other things I'm forgetting. Given that people seem to usually pay 15% more than required at restaurants, but pay the exact bill when shopping at, say, a hardware store, it would seem many of us have preference ordering functions that Robert Hall would describe as "insane."

Or you could cop-out and chalk it up to custom and habit. Either way, weird stuff... I'd pay the thousands of dollars subscription fee to a magazine dedicated to tipping in spite of probably lacking sufficient mathematical background to understand it, but my preference function isn't THAT insane.

Posted by: Julian Elson on March 9, 2003 12:16 AM

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That had me laughing out loud! :D

Posted by: Lorenzo Dei Medici on March 9, 2003 12:30 AM

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Jason, you're a math major?

Posted by: Patrick R. Sullivan on March 9, 2003 09:24 AM

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>>I'll think about how the restauranteur has taken advantage of his local monopoly power to charge us far more than the market equilibrium value of the wine. I'll feel exploited... taken advantage of.... And the wine will taste like ashes in my mouth.<<

Brad, you are essentially saying that individual utility functions are not exogenous and may actually be affected by market structure. Don't you realize how subversive this idea is?

Posted by: andres on March 9, 2003 09:41 AM

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Andres

How could it be otherwise?

Posted by: randall on March 9, 2003 10:46 AM

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This conversation defines true democrats. Spending someone else's money because it is the 'right thing' to do.

Posted by: William Oppenheim on March 9, 2003 12:02 PM

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This conversation defines true democrats. Spending someone else's money because it is the 'right thing' to do.

Posted by: William Oppenheim on March 9, 2003 12:04 PM

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This conversation defines true democrats. Spending someone else's money because it is the 'right thing' to do.

Posted by: William Oppenheim on March 9, 2003 12:04 PM

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Except that Robert Hall is a Republican...

Posted by: Brad DeLong on March 9, 2003 12:09 PM

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"Jason, you're a math major?"

That's what they tell me.

Current GDP = x.
Current after-tax GDP = x * (2/3).
GDP after 30 years of 3% annual growth = ~2.4x.
After-tax GDP in 30 years after tax increases = 2.4x * (1/2).
Effective growth rate in after-tax income over period = (1.2x / (2x/3)) ^ (1/30) = ~2%.

Yes, I'm leaving out deadweight loss effects, but I also think there'd be a gain from bringing the uninsured into the medical system.

Posted by: Jason McCullough on March 9, 2003 01:04 PM

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OK. A Republican with Democratic leanings.

Sorry for the repeats.

Posted by: William Oppenheim on March 9, 2003 01:19 PM

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Ummm... Republicans with Democratic leanings do not get to be Hoover Institution Senior Fellows.

Posted by: Brad DeLong on March 9, 2003 01:25 PM

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"That's because economists, unlike the rest of the population, are already at the optimum sense of humor where d(humor)/d(joke)=0"

But what about the second order conditions? Most economists I know are positive definite, with a few who may or may not be at inflection points...

Posted by: jimbo on March 9, 2003 01:57 PM

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Right. Republican with Republican sorry leanings is what the Hoover and American Enterprise are all about. Drink the wine and pound the darned dogma.

Posted by: jd on March 9, 2003 01:58 PM

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By the by. Who is it exactly who is spending our money these days?

Posted by: jd on March 9, 2003 02:00 PM

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Republicans spend our money, cast us to debt, and rant about Democrats having done it. Rubbish. This Administration has the fiscal discipline of frogs.

Posted by: jd on March 9, 2003 02:06 PM

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Great conversation. I liked achilles' theory of how economists are at the "humour optimum" too. That makes good sense.

Speaking of geeky economics humour, did you hear about the major league macroeconomists appearing on a panel at the AEA meetings talking about the state of modern macro. The New Keynesian gets hot under the collar as the discussion goes on and finally leans over towards the Real Business Cycle guy, waves a finger and exclaims: "You guys have put macroeconomics back 20 years!"

The Real Business Cyclist pauses and then says: "Ah, so you DO believe in negative productivity shocks."

(Boom boom. Thank you, you've been a wonderful audience. I'll be here all week.)

Posted by: Michael Harris on March 9, 2003 03:47 PM

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I think we're missing something here. The point turns, in fact, on how you felt about the restauranteur. Initially you saw him as exploitative, then Hall convinced you he was simply another poor loser. You felt sorry for him. You drank the wine. In fact it tasted better because you felt you were doing something worthwhile. Isn't there another moral buried in here somewhere, one that has nothing whatsoever to do with government debt.

Now let's imagine Thucydides had remembered things differently. Let's imagine you said: so the important thing here is lending a hand to an unfortunate, right. Then why should I let an institution I don't approve of get all the pleasure from helping him out since on my preference function helping out unfortunates has a higher marginal return than anything else I can currently think of doing with the money (mine or theirs)(you do get a lot of pleasure from giving away all this on-site wisdom, don't you?). So why dont't I buy the bottle, no, wait a minute make that two, or three..........zzzzzzzzzz!

Now this is how I see Thucidydes telling the story (if in any doubt see the funeral speech in book two). On further thought perhaps there is a pinch of Herodotus here: doesn't he tell us somewhere that the Persians took every decision twice, once whilst drunk and a second time when sober. And for really important decisions it was better first time sober second time drunk. Perhaps it would have been better to drink the bottles before deciding definitively who was to pay!

Posted by: Edward Hugh on March 10, 2003 12:48 AM

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"two parties to a decision discussing it, but an absent third party paying for that decision. It's bad enough that we've got a similar decision making process in 20% (ignoring state and local governments) of GDP today . . ."

Patrick, there's a little concept called constitutional democracy that refutes your 3-party model . . .

Posted by: rea on March 10, 2003 07:52 AM

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Given the Hoover's political inclinations, Please God tell me that you hit him up for FRENCH wine? ;>

Posted by: a different chris on March 10, 2003 03:29 PM

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Unlikely, different chris. In California, drinking French wine is grounds for deportation, thanks to the wine/whine industry (not anti-French bigotry, thank god).

Posted by: andres on March 10, 2003 09:48 PM

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Brad, you misnamed this hysterical post. You should have called it "The Mealian Dialogue."

Oh well; the strong bloggers do what they can; the small bloggers suffer what they must.

Posted by: Dan Drezner on March 11, 2003 09:13 AM

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Que dijo de la entre MX?

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