Researchers can consider the possibility that the firm is not taking advantage of its market position for reasons other than self-interest with models based on behavioral building blocks.
AIDS drugs are sold by pharmaceutical companies in African countries at prices far below market price.
It could be because of political pressure or it could be out of a sense of fairness.
A traditional economist would focus on the first, while a behavioral econo mist would consider both possibilities and use empirical data to make a decision.
The point of this example is that an economist who is willing to use a wider set of building blocks sees different information than an economist who uses the same building blocks.
There is a lively debate about what build ing blocks economists should use.
In some ways, all types of behavior can be considered rational and selfish, and an entire book could be written on that.
It can be argued that behavioral economists are not arguing for irrational behavior, but for a different type of rationality than is allowed in traditional economics.
People behave in Microeconomics.
The real-world nature of humans requires giving up some of the power of models that are based on assumptions.
Behavioral models are dependent on context.
One can choose from a variety of models, instead of having one model.
Let's look at an example.
You can choose between two income streams.
In the first scenario, you will make $30,000 the first year, $27,000 the second and $24,000 the third.
In the second scenario, you will make $24,000 in the first year, $27,000 in the second and $30,000 in the third.
A model based on traditional rationality predicts that you would choose the first, since you will be able to save the additional $6,000 in the first year, put it in the bank, and end up with more than $30,000 of income in the third year.
It is "rationally" preferred to the second since you get more total income with the first stream of income.
Econo mists have found that most people choose the second stream even if it is explained that they could be better off choosing the first.
Behavioral economists argue that most people know that they don't have complete self-control and that they will spend the extra $6,000 earned in the first year rather than save it.
They don't believe that they have the discipline to switch the first income stream to the second one, even if it was possible.
They prefer the second to the first because it precommits them to saving and strains them from doing something they believe they will do, but which they actually don't want to do.
The behavior is irrational because people tend to choose the stream that results in less total income; it's predictable because in experiments time and time again, people make the same choice.
This seemingly irrational choice is not unique to this example and occurs in a variety of contexts.
Most people answer yes, no, and yes.
An economist would use the traditional building blocks to predict what people would say.
Behavioral economics says that we need more economic models that account for predictable behaviors.
The models that reflect people's actual behavior are complex and don't provide much insight because they are impractical to generalize.
If one were modeling her behavior, it would make sense to assume that a pool player does not calculate the angles and spin of a ball to hit it.
A model built on her actual behavior may be a better predictor of what will happen than a model built on her actual behavior.
The advantage of simplicity and ease of testing is emphasized by modern traditional economists.
If you have one model, you can test it and see if it works.
You have to do more testing with many models.
Modern traditional economists say that a single model that is easy to apply and test is the most useful model.
Modern traditional economists point out that moving away from the traditional building blocks is difficult because models in which people follow their enlightened self-interest rather than self-interest and act purposefully rather than rationally lead to much less clear cut models and results.
Behavioral models depend on the specific context of the choices involved, so instead of a single model, there are many.
Many more patterns can be seen in the data with the broader build ing blocks.
That is an advantage and a disadvantage.
It is an advantage that such models can more accurately reflect actual behavior, and it is a disadvantage that it is hard to know which pattern to focus on.
In an experiment, half the participants were given a mug and the other half were given a pen, each of approximately the same value.
The participants were able to exchange one for the other by returning the first item.
The rationality building block suggests that about half of each group would choose to trade the gift they had for the other.
Only 10 percent of each group chose to trade, suggesting that what one has influences what one wants.
Endowment effects fit the broader "behav- that what one has affects what one is doing" building block; they do not fit the narrower "rationality" building block.
Natural selection of what is useful for survival is the basis of models of how an individual's preferences are determined.
The social conflict over who gets what decreases when people have what they want.
The endowment effect makes it possible for parents to put up with their children and believe that they are close to perfect, even though they are not.
Without the endowment effect, we would probably have an online market where you could trade yours for someone else's.
Modern economists don't like the idea of behavioral economics giving up the old building blocks, they prefer to stay with the nar rower building blocks of rationality and self-interest.
The result of both traditional and behavioral economics is that the most basic build different electrochemical processes occur in the brain.
The people are called vidual.
The hardwired makes the two groups different.
They make assumptions about how the indi is making decisions.
When the Caltech economist Colin Camerer and the rational side of your brain question whether economists sway, there are the "emotional you" and the "rational you".
Building blocks that are more basic affected should be studied by whoever is being studied.
They say that individu is quite different.
When both you's are made up of cells, the result is often confusion.
We need to use building blocks that are different from under a variety of controlled conditions to see what part of the traditional ones are in people's brains.
The brain is reacting in a whole new way.
The choice is a very good example of a precommitment strategy.
It's a good idea to keep dessert in the refrigerator to avoid temptation.
Traditional models give clear-cut results that highlight issues in ways that the modern build clear results, which can highlight issues that are not highlighted in the traditional models.
Gary Becker expressed this view when behavioral models couldn't.
Recently, a number of University of Chicago school economists such as Richard Thaler have begun using a broader set of building blocks, and have been in the forefront of drawing policy implications from models based on modern building blocks.
They advocate for thinking about individuals as reflecting their evolutionary tendencies and being shaped by the market into the type of individuals that traditional economists assume are their inherent natures.
Their argument is not that models built on the traditional building blocks are irrelevant; it is simply that the traditional building blocks do not explain everything, and that attempts to use them to explain everything actually undermines our understanding of what models using the traditional building blocks do.
Modern economics must take into account the fact that people are predictably irrational in some of their models based on traditional building blocks.
The hope of modern economics is that economists will have a set of models that explain the decisions we observe, along with a guide that explains which models fit what situations.
You're not going to get that guide in this book.
Economists are not there yet.
We are far from it, and even those who use the new building blocks don't believe that the behavioral models are enough to replace the traditional models.
In the book, I focus on the traditional building blocks and the standard supply/demand model.
The supply/demand model and its assumptions should not be thought of as anything more than an introduction to modern economics.
There are many types of models that economists have.
All of them are used by modern economists.
To understand modern eco nomics, you need to know the advantages and disadvantages of various types.
Let's start with the models that are known to work.
Lay people don't see the underlying formal model when they hear about an economist's analysis.
They don't see a discussion that conveys the essence of the model.
If you look deeper into the discussion, you can see if the economist is using behavioral or traditional building blocks.
To demonstrate the difference between models based on traditional building blocks and ones based on broader behavioral building blocks, we will look at two popular books that apply economic reasoning to everyday events.
There is a difference between an economist using traditional building blocks and one using behavioral building blocks.
Steven Landsburg is an economist at the University of Rochester.
Landsburg calls himself an "armchair economist" because he provides models to explain everyday events.
Landsburg's models use traditional economic building blocks and he happily pulls out unexpected implications from models built on those assumptions.
Landsburg is an example of a modern economist who sticks to traditional building blocks.
His model is designed to make the reader think, and to see how economic reasoning can come to counterintuitive conclusions.
Modern economic thinking blocks are seen as a plus because they get people to think of questions in a different way than they do.
Landsburg said that Martin and Joan thought they might go home together after an office party the next day.
On the way to the party, Martin sees a subway advertisement from the Centers for Disease Control and Prevention.
He decided to stay at home because he was guilty of his thoughts.
The result of this hookup is that Joan ends up with AIDS because of Martin's virtue.
According to Landsburg, the story shows that Martin's withdrawal from the game made it more dangerous for others.
If everyone with less than 2.25 partners per year had had a few more partners, we could have slowed the spread of AIDS.
Landsburg's model was intended to shock.
It was also meant to hone people's reasoning ability.
Most people would prefer the aggregate outcome of decisions about sexual activity.
Landsburg thought people would make the best decisions for the individuals involved, but they were the decisions that have externalities.
The be best for society was the basis of Landsburg's model.
While Landsburg is traditional in his building blocks, he is not always traditional in the formal models he uses, and in some of the issues he has studied, he has gone far beyond the simple supply/demand model.
He considered the issue of why car insurance cost three times as much in Philadelphia, Pennsylvania, than in Ithaca, New York, even though the theft and accident rates were not significantly different between the two cities.
The model he used has two equilibria instead of one.
Depending on people's initial choice, the model can arrive at different results.
Without knowing the path one cannot predict the equilibrium.
A knowledge of the history is required to reach a conclusion.
The supply/demand model would not lead to an equilibrium price.
Landsburg gave an argument.
The cost of insurance is affected by the feedback effect of the initial choices people make when buying insurance.
There are two arguments that I present.
Disaster assistance is bad news for text, as an example of Landsburg's provoc.
Modern traditional economists should beware of malicious computer hackers.
Traditional building blocks are used to support the most charitable people.
If there are the least charities.
It is socially irresponsible to write books.
Children cause divorce.
The taste for revenge is better than traditional building blocks.