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Behavioral Economics

Breaking Bad: Social Influence and the Path to Criminality in Juvenile Jails

August 15, 2014

In a new working paper supported by the Foundation, Megan Stevenson (University of California, Berkeley) investigates the extent to which peer influence in juvenile correctional facilities affects the rate at which youth offenders are reconvicted. Nationwide, between 40-45% of adults released from prison are incarcerated again within three years, with similar numbers for juveniles.

Though several previous studies have examined other societal factors that may lead to the high number of repeat offenders, there has been very little empirical research on whether the social experience of incarceration affects future criminal activity. As Stevenson states in her abstract:

Using detailed administrative data and quasi-random cohort-level variation, I find that exposure to high risk peers while in a juvenile correctional facility has a large impact on future crime. I consider three mechanisms to explain this effect: criminal skill transfer, the formation of criminal networks which persist after release, and the social contagion of crime-oriented attitudes and non-cognitive traits. I find evidence consistent with the social contagion mechanism in residential correctional facilities. Exposure to peers from unstable and/or abusive homes leads to increased aggression, impulsivity and anti-societal attitudes, as well as increased criminal activity.

Choosing Not to Choose

June 24, 2014

A new working paper by noted behavioral economics scholar Cass Sunstein, titled “Choosing Not to Choose,” is available for download from the Russell Sage Foundation. The abstract states:

Choice can be an extraordinary benefit or an immense burden. In some contexts, people choose not to choose, or would do so if they were asked. For example, many people prefer not to make choices about their health or retirement plans; they want to delegate those choices to a private or public institution that they trust (and may well be willing to pay a considerable amount for such delegations). This point suggests that however well-accepted, the line between active choosing and paternalism is often illusory. When private or public institutions override people’s desire not to choose, and insist on active choosing, they may well be behaving paternalistically, through a form of choice-requiring paternalism. Active choosing can be seen as a form of libertarian paternalism, and a frequently attractive one, if people are permitted to opt out of choosing in favor of a default (and in that sense not to choose); it is a form of nonlibertarian paternalism insofar as people are required to choose. For both ordinary people and private or public institutions, the ultimate judgment in favor of active choosing, or in favor of choosing not to choose, depends largely on the costs of decisions and the costs of errors.

Noted Behavioral Economics Scholar Cass R. Sunstein to Join RSF as Summer 2014 Visiting Scholar

June 9, 2014

Cass R. Sunstein, the Robert Walmsley University Professor and Felix Frankfurter Professor of Law at Harvard Law School, will join the Russell Sage Foundation as a Visiting Scholar for Summer 2014, starting on Monday, June 9.

Sunstein is a member of the Foundation’s Behavioral Economics Roundtable, an initiative that gathers prominent scholars in the field to support and promote new research in behavioral economics. With RSF trustee Richard H. Thaler, he co-authored the 2009 book Nudge: Improving Decisions About Health, Wealth, and Happiness, a New York Times bestseller that examines the way that people make decisions and shows how sensible “choice architecture” can successfully nudge people toward the best ones.

Sunstein served as Administrator of the White House Office of Information and Regulatory Affairs from 2009 to 2012. His other books include, most recently, Conspiracy Theories and Other Dangerous Ideas and Why Nudge?: The Politics of Libertarian Paternalism (2014).

During his time in residence at the Foundation, Sunstein will work on his next book manuscript, titled Choosing Not to Choose.

Fairness and Punishment Across Human Societies

May 6, 2014

Experimenting with Social Norms, edited by Jean Ensminger and Joseph Henrich, compiles and synthesizes a rich combination of experimental and ethnographic findings from an international team of anthropologists and economists aimed at investigating the tensions between cooperation and self-interest across diverse human societies. How do societies manage to solve problems collectively, enticing individuals to forego their own narrow short-term economic interests in a way that benefits the whole group, and fosters mutually beneficial exchange? And furthermore, how does the decision to subordinate one’s self-interests for the larger group—or what Ensminger and Henrich call prosocial behavior—vary among different societies based on locally acquired social norms and motivations?

Using experimental economics games, this team examined levels of fairness, cooperation, and norms for punishing those who violate expectations of equality across a diverse swath of societies, from hunter-gatherers in Tanzania to a small town in rural Missouri. The researchers employed the following games to assess each group’s level of prosociality:

Dictator Game
Two players from the same community, interacting anonymously, are given a sum of money equivalent to one day’s wages to split. Player 1, assigned to be the “dictator,” decides how to allocate the money between the two players. Both players receive the actual amounts of money that Player 1 “dictates.” In Europe and the U.S. a fifty-fifty split is considered a “fair” outcome.

Ultimatum Game
This version of the dictator game adds an ultimatum: Though Player 1 decides how to allocate the money, Player 2 may reject the offer—in which case, neither party receives anything. The behavior of Player 1 in this scenario has elements of both fairness and strategy, while the behavior of Player 2 in this game captures the price that people are willing to pay to punish Player 1 for what they perceive to be an unfair offer. The willingness to punish an anonymous partner for unfairness, at a personal monetary cost, can be interpreted as prosocial behavior because this punishment may alter Player 1’s future interactions with other group members.

Third-Party Punishment Game
In this experiment, two people play the Dictator Game with the addition of a third anonymous player— endowed with an amount of money equivalent to half the amount given to the first two players—who has the option of using any part of his or her money to punish Player 1 for making an unfair offer to Player 2. Unlike the Ultimatum Game, in the Third-Party Punishment Game, the person paying a price to do the punishing is not the injured party.

New Report: The Case of Conspicuous Consumption

December 5, 2013

With each passing Thanksgiving, retailers inaugurate the holiday season with increasingly larger displays and deals. The past few years have seen the introduction of “Cyber Monday” as an extension of Black Friday, as well as longer lines and more advertisements in the lead-up to the notorious weekend of steep discounts. This year, several major retailers including Walmart and Best Buy opted not to wait until the day after Thanksgiving to begin their sales, and instead kicked off Black Friday on Thanksgiving afternoon.

As we head full-force into the holidays, a new report by Ricardo Perez-Truglia, funded by the Russell Sage Foundation, provides some timely and valuable insight into conspicuous consumption in the U.S. A Ph.D. candidate in Harvard’s Department of Economics, Perez-Truglia argues that people use conspicuous consumption of market goods (such as clothing and jewelry) to signal their wealth and thereby increase the probability of obtaining non-market goods (such as admiration). The report abstract states:

Perez-Truglia is the first to exploit this relationship to measure the market value of those non-market goods by using a revealed-preference approach. He estimates a signaling model using nationally representative data on consumption in the U.S. He then uses this model to obtain welfare implications and perform a counterfactual analysis. His estimates suggest that for each dollar spent on clothing and cars, the average household obtains approximately 35 cents in net benefits from non-market goods.

RSF Behavioral Economics Roundtable Member Colin Camerer Named 2013 MacArthur Fellow

September 25, 2013

Colin Camerer, Robert Kirby Professor of Behavioral Economics at the California Institute of Technology, has been named one of the MacArthur Foundation’s 2013 Fellows. Camerer is a founding member of the Russell Sage Foundation's Behavioral Economics Roundtable as well as a former RSF Visiting Scholar.
 
The Roundtable is one of the major activities of the Russell Sage Foundation’s Behavioral Economics research program. Made up of 28 prominent behavioral economists, including Camerer, the Roundtable currently sponsors three main activities: a small grants program for younger scholars undertaking behaviorally oriented research; a two-week summer workshop taught by Roundtable members for graduate students and junior faculty interested in entering this new interdisciplinary field; and a book series in a behavioral economics, of which Camerer is co-editor. Camerer is the author of Behavioral Game Theory and the co-editor of Advances in Behavioral Economics, both co-published with Princeton University Press.

Teaching Financial Literacy: The Case of Compound Interest

Melissa Sions, Russell Sage Foundation
May 9, 2013

Calls for increasing financial literacy have grown louder recently, as the soaring costs of health care and education, high unemployment, and the effects of the Great Recession all converge to strain the budgets of governments, businesses, and individuals. Many agree that financial education benefit those who participate, but the results have been underwhelming. According to a recent column in The Economist, not only is financial literacy a major stumbling block for most people, but interest in—and success in teaching—financial education is incredibly low, regardless of age or life circumstances. Last September, the SEC released its own report on financial literacy among Americans, and its results of which were fairly discouraging. Some argue that the main problem is the ability to engage students in the material, but as we’ve written before, the problem may be more fundamental than that.

In their paper “Misunderstanding Savings Growth,” published in the RSF-funded Journal of Marketing Research, Craig McKenzie and Michael Liersch argue that the failure to begin saving early for retirement—or to reach retirement savings goals—comes down not just to a lack of financial knowledge, but also to gross misunderstandings of how savings grow over time. Conventional economic wisdom holds that people are able to “[calculate] future values and [make] trade-offs with present values.” However, through a series of experiments, McKenzie and Liersch notice that not only do people systematically underestimate how much retirement savings grow exponentially, but that understanding how compound interest works doesn’t always help to motivate them to save earlier.

In fact, what helps the most in motivating people to save is demonstrating the effects of exponential growth. Offered a graphical representation of how compound returns accumulate over time (see below), participants were markedly better able to determine whether early saving would prove beneficial over the course of a career. Not only that, but they were better able to think their way out of the fallacy that saving twice as much later might yield the same returns at the point of retirement. This finding was successful without any interventions that told participants explicitly what compound interest was or how it could be calculated. Interestingly, this approach increased motivation in participants at different stages of their careers. McKenzie and Liersch did experiments with undergraduate students as well as employees at a Fortune 100 company, and found that workers’ reactions to exponential savings growth were similar to those of the undergraduate sample. As the authors point out, this finding indicates that it isn’t an understanding of compound interest that motivates people, but demonstrations of its effects over time.

Thirty Years of Prospect Theory

February 6, 2013

Nicholas Barberis, a member of RSF's Behavioral Economics Roundtable, has published a new paper that examines how researchers have tried to apply prospect theory in economic settings. Here is the abstract:

In 1979, Daniel Kahneman and Amos Tversky, published a paper in Econometrica titled "Prospect Theory: An Analysis of Decision under Risk." The paper presented a new model of risk attitudes called "prospect theory," which elegantly captured the experimental evidence on risk taking, including the documented violations of expected utility. More than 30 years later, prospect theory is still widely viewed as the best available description of how people evaluate risk in experimental settings. However, there are still relatively few well-known and broadly accepted applications of prospect theory in economics. One might be tempted to conclude that, even if prospect theory is an excellent description of behavior in experimental settings, it is less relevant outside the laboratory. In my view, this lesson would be incorrect. Over the past decade, researchers in the field of behavioral economics have put a lot of thought into how prospect theory should be applied in economic settings. This effort is bearing fruit. A significant body of theoretical work now incorporates the ideas in prospect theory into more traditional models of economic behavior, and a growing body of empirical work tests the predictions of these new theories. I am optimistic that some insights of prospect theory will eventually find a permanent and significant place in mainstream economic analysis.

The Potential of Smart Disclosure

January 25, 2013

Late last year, the Russell Sage and Alfred P. Sloan Foundations sponsored a competition to solicit proposals for smart disclosure demonstration projects. "Smart disclosure" policies aim to improve consumer markets by providing decision-makers data about their their personal use patterns or histories. Here are some details on the winning proposals:

1. Efficient Web-Based Credit Markets

While the consumer credit market has grown dramatically in the past two decades, consumers find it difficult to systematically compare credit offers (many of which arrive in the mail). Consumers know that their credit score may be downgraded by repeated applications for credit, but a bigger challenge is sorting through lengthy contracts, complicated reward programs, and interest rates. This research project will investigate the potential of a recent policy shift in Sweden, where consumers can "shop" for credit using an online intermediary. When they submit their information -- for example, the amount of credit they seek and their credit score -- the online intermediary supplies their application to participating banks, which can decide to offer a bid to the consumer. The web intermediary standardizes all financial contracts, reduces search costs, and allows consumers to see competing bids in an accessible manner.

2. Doctor Finding Service

Finding a healthcare provider can be difficult: comprehensive information about a doctor -- that is, including malpractice history, patient feedback, outcomes -- is rarely available in one location, and websites often present data using arcane terminology and complicated designs. This research project aims to develop and test a smart disclosure service that captures information local area health care providers and provides consumers an easy to understand interface for finding and comparing health care resources.

Behavioral Economics Puzzles: Kahneman and Tversky's Experiments

January 3, 2013

Birth of Behavioral EconomicsIn the December issue of the Journal of Economic Literature, RSF author Andrei Shleifer discusses the insights and ideas from Daniel Kahneman's latest book, Thinking, Fast and Slow. Published in 2011, the book summarizes Kahneman's innovative research on decision-making and human rationality; his work with Amos Tversky is widely believed to have played a pivotal role in the rise of behavioral economics. "The broad theme of [Kahneman and Tversky's work] is that human beings are intuitive thinkers and that human intuition is imperfect," Shleifer writes, "with the result that judgments and choices often deviate substantially from the predictions of normative statistical and economic models." He then summarizes prospect theory, heuristics, biases such as loss aversion, and possible future paths for behavioral economics, a relatively novel field that the Russell Sage Foundation has sponsored for more than two decades.

Shleifer also highlights some of Kahneman and Tversky's path-breaking questions and experiments that show part of the human mind to be "nonstatistical, gullible, and heuristic." Try the following puzzle:

An individual has been described by a neighbor as follows: “Steve is very shy and withdrawn, invariably helpful but with very little interest in people or in the world of reality. A meek and tidy soul, he has a need for order and structure, and a passion for detail.” Is Steve more likely to be a librarian or a farmer?

Shleifer explains the results:

Most people reply quickly that Steve is more likely to be a librarian than a farmer. This is surely because Steve resembles a librarian more than a farmer, and associative
memory quickly creates a picture of Steve in our minds that is very librarian-like. What we do not think of in answering the question is that there are five times as many farmers as librarians in the United States, and that the ratio of male farmers to male librarians is even higher (this certainly did not occur to me when I first read the question many years ago, and does not even occur to me now as I reread it, unless I force myself to remember). The base rates simply do not come to mind and thus prevent an accurate computation and answer, namely that Steve is more likely to be a farmer.

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