Phull of Phallacies

Phishing for Phools: The Economics of Manipulation and Deception
by George A. Akerlof & Robert J. Shiller
Princeton University Press, 2015, 288 pages, $49.95

You probably don’t realise exactly how stupid you are. But as a base animal who simply responds to stimuli you are just not particularly smart. Now don’t take my word for it—after all I have my own stupidity to contend with—this is the message from two economics Nobel laureates. George Akerlof (2001 joint Nobel winner) and Robert Shiller (2013 joint Nobel winner) have collaborated to write Phishing for Phools, which purports to tell us mere mortals exactly how we get things so horribly wrong.

The first phool of note is my good self. I bought and read a book by two famous academic economists that came highly recommended by other famous economists. I should have known better than to trust the opinions of people like Joe Stiglitz and Alan Blinder. I don’t trust them on macroeconomic policy, so why should I have trusted them on microeconomics?

In my defence let me say that the topic is important. Traditionally, policy-makers have justified government intervention on the basis of so-called externality—that the actions of individuals impose costs (or benefits) on others and these costs need to be minimised (or expanded as the case might be). But there is a limit to how much cost you can impose of others. People are becoming increasingly cynical about claims that x-issue imposes eleventy billion dollars of costs and lost productivity on the economy. The argument that we live in a society and not an economy cuts both ways.

To justify the ever-expansion of the nanny state into every aspect of our lives requires more than externality. Not only are people dangers to others (requiring government intervention) but people are dangers to themselves. Now this is hardly controversial—anyone familiar with the siren call of the chocolate jam doughnut knows well the phrase, “one’s own worst enemy”.

But Akerlof and Shiller don’t leave things there. After all, that would hardly be an interesting story and adults are perfectly capable of making their own decisions. Rather, their argument is that we—consumers and decision-makers generally—are phooled into making bad decisions. In essence there is an economics of manipulation and deception, and profits to be earned from that deception and manipulation.

That is an interesting and important argument. I would expect that interesting and important economists, as both Akerlof and Shiller are, would be able to mount an argument for their position. Not only am I disappointed by their effort to mount the case for their position, I’m annoyed that my US$24.95 investment in their book has been wasted. I’m suffering from buyer’s remorse. More phool me.

Ultimately Akerlof and Shiller are patronising towards their readership. Not so out of touch, however, to realise that people don’t like being called fools. So they replace f with ph. It probably seemed a clever idea in the faculty staff room—but the thing is this: people are not stupid. True, the only people they condemn as being outright stupid are smokers—reflecting the extent to which smokers are now a persecuted minority who can be insulted with impunity. More generally, people are not fools, and when you write an entire book making the case that they are foolish, you need to have a very good story to tell. This is where Akerlof and Shiller fail.

Internet users would be familiar with the word phish—it describes a situation where people are deceived into providing personal information online. Akerlof and Shiller expand on that meaning to define phish as getting people to act against their best interests. People who get “phished” are “phools”. There are two types of phools—informational phools and psychological phools. Informational phools are victims of deliberate attempts to mislead them—often, but not always, fraud. This is easy to understand, and both custom and law have evolved over time to reduce this sort of behaviour to tolerable levels. Psychological phools are phished when they make decisions for emotional reasons or suffer from cognitive biases. Surprisingly the book has very little to say about cognitive bias or “emotion”.

With these definitions we have the making of an economic model—if economics is a theory of choice, then what happens if and when people make bad choices? Akerlof and Shiller seem to suggest that (some) people consistently make bad choices and that they are manipulated into doing so. If true, the consequences are possibly dire. They point, for example, to economic instability, poor health outcomes and bad government resulting from phishing for phools.

This is the high point of their argument: the suggestion that if people are systematically phooled then society could bear large costs. This is all in the preface—the book goes downhill quickly after that. To add some meat onto the very bare bones of their theory Akerlof and Shiller then introduce tastes. Again there are two types of taste: tastes that are good for you and “monkey-on-the-shoulder tastes”. These latter tastes are for those things that presumably are not so good for you. At this point their whole analysis collapses—we are being invited to subscribe to a theory where two elderly academic economists get to decide what is or isn’t good for you on the basis, presumably, of their own tastes. As they both admit to owning Volvos their tastes are pretty dubious.

The remainder of the book consists of a series of case studies and examples that should inform their theory. Yet it is never quite clear how their case studies fit into their model. At the end of the book one would hope for some understanding as to when people are phooled, and when not; when people make cognitive errors, and when not, and so on. Yet none of that happens—in their conclusion they continue to introduce new examples rather than integrate their case studies and examples with their initial theory (such as it is).

What of the case studies and examples they think best illustrate their theory? Consider Cinnabon bakeries, which produce delicious cinnamon rolls. There is a breathless account of how Cinnabon Inc strategically places their bakeries in airports and shopping malls, and then attracts customers through the smell of their product. Apparently we “fail to appreciate how much effort and expertise went into understanding” how best to place and market Cinnabon. It is clear that somebody has failed to understand how much effort it takes for any organisation to be highly successful and profitable.

Quadrant subscribers enjoyed this essay immediately upon publication of our latest edition.
Click here to support Australia’s best and most eclectic magazine

Then there is the opt-in or opt-out example. It turns out that gyms make money out of people over-estimating how much time they can dedicate to actually exercising. It may come as a surprise to some economists, but a lot of people have known and understood this sort of thing for a long time. The gym example applies to many different situations and industries. More importantly this phenomenon doesn’t need to be explained by irrational consumers, rather it is a story about transaction costs.

There are horror stories to please everyone. We’re told the banks are constantly phishing for phools—in fact, together with the ratings agencies they caused the global financial crisis. Not a word about the US Community Reinvestment Act or Fannie Mae or Freddie Mac in their story. Then they turn their sights on the food industry and “Big Pharma”. Apparently it isn’t enough that food companies correctly label their products including calorie information. Food companies now design their food to be so delicious that people want to eat it despite the information they are being given.

If you thought that all the medical advances and miracle drugs available to ease disease, pain and suffering were a good thing—you need to think again. It turns out that Big Pharma works very hard to get regulatory approval for its drugs—often complying exactly with the written regulations—and then again works hard to get medical doctors (people with state-issued licences to prescribe pharmaceuticals) to actually prescribe the drugs. Shocking.

Then we’re told that not all innovation is good. At face value this is a plausible argument. Plenty of examples come to mind: nuclear weapons, methamphetamine and the like. Facebook, however, would have to be far down the list of harmful innovations. Rankings too. Yes, dear reader, first- and business-class travel is a harmful innovation.

Akerlof and Shiller are on firmer ground when they discuss unambiguous vices. The great addictions—tobacco, alcohol, gambling and drugs—are harmful. Yet it isn’t clear to me that we need a new theory to understand their attraction. This highlights one of the major problems with the entire exercise. Akerlof and Shiller essentially describe an austere and dour existence. Life for them isn’t quite nasty, brutish and short, but it would be joyless and soulless.

People don’t need to eat delicious food to survive. People don’t need to enjoy a drink, or heaven forbid, a smoke with friends. Or a flutter on the horses or roulette wheel. Mind you, they don’t need to drive Volvos either. True, some lifesaving pharmaceuticals can have adverse side-effects on some parts of the population. Yet many people would think that there is more to life than subsistence. I imagine that few people would be happy to have two academics telling them they are fools for enjoying life and all that modern civilisation has to offer.

People are not fools when they make lifestyle choices that academics don’t like. People are not fools when they make choices academics don’t understand. Akerlof and Shiller are highly critical of privatised social security. It is, “to be blunt, daffy”. Apparently it relies on “extreme assumptions”. Yet the Australian superannuation system is remarkably successful and popular. I suppose that’s all very well in practice, but it could never work in theory.

It is very hard to go past the notion that two neo-classical economists suddenly looked outside their ivory towers and realised that the world doesn’t look anything like their theoretical models. Yet I know that this is an unfair characterisation of Akerlof and Shiller. So how to explain this astonishingly bad book? Early in the piece they talk about “reputation mining”. This is another well-known phenomenon that Hollywood engages in—cashing in on the franchise; make three great movies and then three ghastly prequels. I suspect both Akerlof and Shiller are cashing in on their reputation as economists to engage in some social engineering, to describe life as they would like to see it.

Generally there is nothing much wrong with people expressing an opinion as to the good society. But not in this case. This book, and the arguments contained within it, are a danger to a liberal society. The Turnbull government has recently announced the creation of a behavioural economics unit (officially titled the Behavioural Economics Team of the Australian Government) to work in the Department of Prime Minister and Cabinet. The notion that everyone save some elitists in Canberra is a phool in need of corrective government intervention will quickly lead to a massive expansion of the nanny state.

What in an ivory tower might be an interesting academic pursuit can very quickly become pseudo-scientific charlatanry when applied to real life. To be fair, some observers, such as Chris Berg of the Institute of Public Affairs, are cautiously optimistic. He argues that a behavioural economics unit could drive a deregulation agenda where the government targets low-hanging fruit. That is possible but, on balance, unlikely. When anything and everything you don’t like or don’t understand gets explained away by pop-psychology, it is more likely that businesses selling nice-smelling cinnamon rolls will attract more government interest than poorly designed tax policy or business regulation.