Corporate & Securities Law

The Future of Law and Economics: Does Behavioralism Offer Hope for the Non-Technical?

Josh?s series-in-progress on the future of law and economics (Part I, Part II, Part III?and more to come) is simply fantastic. It?s also a bit depressing for those of us who are economically inclined but lack the skill set required to do sophisticated modeling and/or rigorous empirical work. Josh?s latest post (Part III) suggests there might be a role for us posers as ?translators.? I?d be completely happy with that role. Indeed, I?ve always viewed my own economically-influenced scholarship as ?economic analysis of law,? not ?law and economics? per se, for it consists of analyzing legal rules in light of the models and empirical findings of other, real-live economists. But I?m still a bit depressed because, as Josh says in Part III, even translators need formal training, and I don?t have much of that.

There is, though, one scholarship trend ? unacknowledged by Josh ? that gives me hope. That trend is behavioral law and economics (BL&E). As Christine Jolls explained in this paper, BL&E ?attempts to improve the predictive power of law and economics by building in more realistic accounts of actors? behavior.? In particular, BL&E jettisons the traditional rational choice model of human behavior ? the assumption that humans are rational self-interest maximizers ? and replaces it with a model that purports to take account of individuals? cognitive quirks.

While challenges to the rational choice model are old news (everyone recalls the art major in Econ 101 who kept insisting, ?But people don?t really act that way!?), BL&E has gotten traction lately because of studies suggesting not just that people act irrationally but that they do so in systematic ways. If, in fact, departures from rationality are systematic, then they are predictable. And if they are predictable, then they can inform legal analysis, helping us structure rules to optimize outcomes in light of individuals? various quirks.

Without doubt, BL&E represents an important trend in legal scholarship. (Stephen Choi and Adam Pritchard go so far as to refer to it as ?the growth stock of legal academia?!) Perhaps that?s because it generates policy recommendations that are more attractive to most law professors than those generated by traditional L&E. Because most voluntary transactions leave both parties better off and are thus wealth-enhancing, traditional L&E has typically advocated laissez faire policies that permit free contracting and private ordering. This has riled lots of ?liberal? (not in the classical sense) law professors, who haven?t been so fond of L&E?s generally libertarian policy prescriptions. BL&E, on the other hand, is much less confident that free contracting and private ordering lead to optimal outcomes. Accordingly, it tends to generate more interventionist policy recommendations ? the sorts of policies to which most law professors are attracted.

For evidence of the influence of behavioral economics and BL&E, take a glance at Amazon.com?s current list of best-sellers in the business and investing category. Number 11 is MIT economist Dan Ariely?s Predictably Irrational: The Hidden Forces that Shape Our Decisions. That book explains for a popular audience some of the cognitive quirks behavioral economists have purportedly discovered. Number 13 is Cass Sunstein and Richard Thaler?s Nudge: Improving Decisions About Health, Wealth, and Happiness. That book prescribes some ?libertarian paternalist? public policies that might improve society, given that individuals are beset by the sorts of cognitive quirks discussed in Ariely?s book.

So why am I optimistic that there?s a role for those of us with some basic economic sense and analytical skill but without extensive training? Because a good bit of the normative BL&E work is open to significant, but relatively non-technical, criticism. (I?m not talking about Sunstein and Thaler, whose book I haven?t yet read and whose work is generally quite insightful.) As I explained in this short response article, behavioral theorists are particularly susceptible to at least two mistakes: they may discount the rational account too quickly, and they may hastily advocate an interventionist policy response without accounting for the likelihood of government failure. Those of us with a solid understanding of microeconomic theory and public choice may be able to offer important criticisms of their ideas — without a lot of math formulas and regressions. Of course, the better trained we are, the more rigorous our criticisms will probably be. But I?m holding out hope that we won?t be relegated to the dust bin.

Full post as published by Truth on the Market on May 06, 2008 (boomark / email).