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Austrian Theory and Economic Organization: Reaching Beyond Free Market Boundaries

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The first volume (of two) edited by Guinevere Liberty Nell.

The Austrian economic school famously predicted and explained the problems of calculation in a socialist society. With their concept of spontaneous order, they challenged mainstream economists to look beyond simplified static models and consider the dynamic and evolutionary characteristics of social orders. However, many feel that Austrians took their victory too far and became ideologically devoted to laissez-faire.

Austrian Theory and Economic Organization is a collection of essays on problems and possibilities in economic organization, written by economists and political scientists with an interest in the dynamic and evolutionary nature of market economies. Each chapter explores areas of potential agreement between Austrian theory, market socialist economics, and other heterodox schools of economic and political science. The collection aims to bridge cultural and political divisions between free market advocates who stress individual rights and left-leaning thinkers who stress social justice and a culture of solidarity.

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Daniel Kahneman

Here are some high profile thinkers assessing the impact of DK especially in light of his accessible Thinking, Fast and Slow. Below is a encyclopedia entry I did on DK.

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Daniel Kahneman (b. 1934) is a social psychologist who, along with experimental economist Vernon Smith, shared the Nobel prize in economics for 2002. Though the prize was conferred upon Kahneman, it was in in effect recognition of the seminal work dubbed “prospect theory” that Kahneman formulated in collaboration with the late Amos Tvesky. Independently and jointly they were interested in studying the cognitive biases (and cognitive illusions) of intuitive thinking; of how minds actually operate in a social world shot through with limitations, complexity and contingency. Their research can be understood as a finer-grained and more technical explication of Simon’s “bounded rationality” pursuing three different, though not unrelated, lines of inquiry – heuristics, prospect theory and framing effects – that all came to be distilled in Kahneman (2011).

The “framing effect” connotes the idea that options are described in terms of gains (positive frame) rather than losses (negative frame) and under study, elicits systematically different choices. Prospect theory concerns the psychophysics of wealth utility: that is, the perceived tradeoffs between potential outcomes and the probability of some outcome occurring. Kahneman and Tversky reworked Bernoulli’s long established orthodoxy of wealth utility that supposedly explained loss aversion through quantifiable states of wealth. Instead, they took the view that by asking subjective questions rather than propositional (or abstract) questions regarding terms of loss and gain, they presented a richer explanation for loss aversion. They found that that though agents like winning and dislike losing, they in effect are orientated to dislike losing more.

Kahneman and Tversky (1979) initially articulated decisions under risk (as opposed to decisions under uncertainty) involving at most two non-zero outcomes. Later as cumulative prospect theory (1992) they accommodated decisions under uncertainty and risky conditions that employs cumulative, rather than separable decision weights with any number of outcomes.

Out of prospect theory grew Kahneman’s “two minds” thesis, summarized for a popular audience in his book Thinking, Fast and Slow. The title of the book connotes two fictional systemic ideal types or characters: fast thinking connotes the “on the fly” or “online” or automatic intuitive operation of the human perceptual and memory apparatus; slow thinking by contrast is “conscious,” deliberate, effortful, conceptual, analytical and propositional in character. Four things should be noted. The positing of these two systems should not lead one to any of the following inferences:

(a) that there is indeed a sharp duality and that ne’er the twain shall meet;
(b) that these two “systems” have definitive brain structure instantiations;
(c) that fast thinking is intrinsically irrational;
(d) that slow thinking is intrinsically rational.

In support of his thesis Kahneman’s presents a raft of empirically based puzzles, illusions and paradoxes illustrating our innate capacity for deluding ourselves and perhaps more importantly just about how little we know. Kahneman illustrates how heuristics or rules of thumb deployed to solve statistical problems can quite easily result in biased estimates and predictions. Respondents, when confronted with a problem to which they are unlikely to know the correct answer to, tend to allow their ruminations to be influenced by objectively irrelevant frames. Other heuristic tests showed that even if respondents receive all the information needed, it is not used correctly.

This said, it should be understood that Kahneman is not suggesting that agents are necessarily and irredeemably irrational – what he’s proposing is merely that one is alert to the supposedly infallible deliverances of intuition. Kahneman’s and Tversky’s work illustrated that neither the lay individual nor indeed even the expert in any knowledge community, are immune from systematic error. Given the vast scope of the “expertise industry” be within an academic or in a public life setting, Kahneman is viewed as highly controversial, not least in his own field of psychology where he has called for a more rigorous validation of priming effect studies.

See also: Anchoring; bounded rationality; ecological rationality; errors and biases; heuristics

Further Reading:

Kahneman, D., & Tversky, A. 1973. On the psychology of prediction. Psychological Review, 80, 237-25l.
Kahneman, D., & Tversky, A. 1974. Judgment Under Uncertainty: Heuristics and Biases. Science, New Series, Vol. 185, No. 4157: 1124-1131.
Kahneman, D., & Tversky, A. 1979. Prospect theory: An analysis of decisions under risk. Econometrica, Vol. 47, No. 2: 263-291.
Kahneman, D., & Tversky, A. 1992. Advances in prospect theory: Cumulative representation of uncertainty. Journal of Risk and Uncertainty 5 (4): 297–323.
Kahneman, D. 2011. Thinking, Fast and Slow. Toronto: Random House.

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Risky business

A new article in the latest issue of the PNAS entitled “Predicting risky choices from brain activity patterns (h/t to Shannon Selin).

This study reminds me of Daniel Kahneman and Amos Tversky’s work:

Prospect theory concerns the psychophysics of wealth utility: that is, the perceived tradeoffs between potential outcomes and the probability of some outcome occurring. Kahneman and Tversky reworked Bernoulli’s long established orthodoxy of wealth utility that supposedly explained loss aversion through quantifiable states of wealth. Instead, they took the view that by asking subjective questions rather than propositional (or abstract) questions regarding terms of loss and gain, they presented a richer explanation for loss aversion. They found that that though agents like winning and dislike losing, they in effect are orientated to dislike losing more. Kahneman and Tversky (1979) initially articulated decisions under risk (as opposed to decisions under uncertainty) involving at most two non-zero outcomes. Later as cumulative prospect theory (1992) they accommodated decisions under uncertainty and risky conditions that employs cumulative, rather than separable decision weights with any number of outcomes.

Kahneman, D., & Tversky, A. 1979. Prospect theory: An analysis of decisions under risk. Econometrica, Vol. 47, No. 2: 263-291.

Kahneman, D., & Tversky, A. 1992. Advances in prospect theory: Cumulative representation of uncertainty. Journal of Risk and Uncertainty 5 (4): 297–323.

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Constructivist and Ecological Rationality in Economics

All those interested in extended mind/externalist/situated type thought should be aware of the field of Behavioral Economics (BE) in general and the work of Vernon Smith in particular. BE is a body of literature that was ploughing this trough some twenty years before the hypothesis of extended cognition took root in cognitive science. It is interesting to note that the Clark and Chalmers thesis took some inspiration from Herbert Simon (Clark & Chalmers, 1998). Simon writes:

Human beings, viewed as behaving systems, are quite simple. The apparent complexity of our behavior over time is largely a reflection of the complexity of the environment in which we find ourselves . . . [I] would like to view this information-packed memory less as part of the organism than as part of the environment to which it adapts . . . (Simon, 1996, 53, cf.8, 62, 99, 110).

But what is remarkable about this is that Simon in turn credits and endorses Hayek for this view:

No-one has characterized market mechanisms better than Friedrich von Hayek . . . [His] defense did not rest primarily upon the supposed optimum attained by them but rather upon the limits of the inner environment – the computational limits of human beings (Simon, 1996, 34).

What Simon has grasped is the corollary to Hayek’s spontaneous order externalism – “cognitive closure” (or in Simon’s terminology “bounded rationality” was a key presupposition to all Hayek’s work and set out in its most technical form in Hayek (1952/1976). Cognitive closure is the idea that the human mind is constitutionally delimited – a condition that can be ameliorated if the social and artifactual world functions as a kind of distributed extra-neural knowledge store.

Through the work of Vernon Smith (the provenance going back to his classical namesake, Adam), ecological or situated/bounded rationality has received its most recent and finest articulation. Unlike some Nobel Laureates (no names) Vernon is not a prima donna. He is exceedingly approachable, very kind, generous, modest and open-minded. I was lucky enough to meet  Vernon in Tucson and he put me at ease very quickly as did his charming wife. Recently, Vernon gave me an inscribed copy of his Rationality in Economics: Constructivist and Ecological Forms along with his autobiography Discovery – A Memoir, the former deeply informing my work; the latter interest taking wing from my talking to him about his Kansas youth.

Nobel Lecture

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Economics, cognitive science and social cognition

Here is the intro to Don’s paper:

This essay concerns the role of economics in the interdisciplinary study of social cognition. Increasingly many economists believe that economics has such a role. Most who hold this opinion do so because they think that, to some extent, important parts of microeconomics should collapse into psychology. They think this in part because they are convinced that most human motivation has turned out to be irreducibly social, whereas traditional microeconomics depended for maintenance of its distance from psychology on modeling people as if their social relations were incidental rather than constitutive. Bruni (2005) is a representative instance of the newer view.

The perspective I will defend here agrees that economics can and should contribute to the understanding of social cognition. Economics is an important part of a complementary suite of cognitive and behavioral sciences that accomplish more together than they could do in isolation. However, I do not believe that any part of economics should be collapsed into psychology, and I reject the widespread opinion that economics for much of its history ‘went wrong’ by ignoring the social dimension of value.

I will aim to do three things in the paper. First, I will describe the origins of the widespread misperception. As will be seen, both the cognitive revolution of the 1960s and the later interanimation of cognitive science and social theory are important parts of this story (see also Angner & Loewenstein, forthcoming). Then I will explain why I think the perception is confused. Finally I will indicate why all of this matters: economics can make its distinctive and important contribution to our understanding of social cognition (and social behavior) only if it is recognized to have a different role from that of psychology. Economics is not equivalent to the psychology of valuation, though there is (of course) such a psychology, which is partly social, and economics helpfully informs it. It would reduce confusion, I believe, if much of what is now called ‘behavioral economics’ were referred to as ‘psychology of valuation’ instead.The confusions I aim to dispel are historical in origin. Thus much of the essay will be about what economists call ‘history of thought’. Let me therefore note that my motives are not the historian’s. That is, I am not concerned per se with the way in which historical thinkers represented their own intentions and views to themselves. I am instead concerned with how we should critically regard previous episodes of reasoning in light of what we think we have learned that participants in these past episodes did not know. To illustrate with a simple example: the question ‘Why did Copernicus set the scientific revolution in motion?’ is not a question for the intellectual biographer, because Copernicus never imagined he was doing any such thing; but it is a perfectly good question for the historian of science who knows how events turned out and what led to what.