Seeing as it has remained obscure to me for some time now, what are the main differences between the Austrian and Behavioral Economics? Or, more specifically, between Praxeology and its correspondent in the enemy camp (i.e. behavioral school).
First they were ignoring the human factor and the individual completely by applying mathematical equations to humans. Now they are studying the psychology of human behavior in the market. ########################### I don’t consider behavioral economics as Economic science. If anything, it should be categorized under Psychology. They will study anything but economics! Economics debunks the Statist myths! They can’t study economics. They have to keep reinventing themselves.
Behavioral economists often assume that the economy can somehow be moved by emotions. This is a completely absurd positions, since economic well-being is ultimately determined by economic law and scarcity, not by how well someone feels. Only because there are many bulls doesn’t mean that there will be a bull market. You get the point.
A lot of people subscribe to the idea that if people get scared they all pull their money out of the stock market at once… It should be quickly pointed out that if there ever were irrational emotional actors in the marketplace selling their shares for half of what they’re worth, a real entrepreneur will just buy them up.
Praxeology is an attempt [whether successful or not I don’t know] to discover those truths about economics that are 100% iron clad absolutes. This is done by making initial assumptions that are assumed to be self evident, then using the classical rules of logic to draw conclusions.
In other words, it attempts to turn economics into the kind of thing one studies in high school geometry. Now how much of economics can one do this way? Obviously it has its limitations, which students of it [hopefully] gladly acknowledge. In particular, I don’t think one can take the stories presented in a book like Fad, Follies, and Delusions of the American People and use Praxeology to shed any light whatsoever on it. It’s just not something meant to be studied with the tools of praxeology, just as the question of “how to bake a delicious cake” or “what causes cancer” is not meant to be answered by Praxeology.
This is not an insult to that noble field. Math and Astronomy also won’t tell you how to bake a good cake.
Behavioral Economics, on the other hand [as explained in Wikipedia] has decided to study the Fads Follies and Delusions one finds in economic activity. Why do people so dumb things? Is there a pattern of stupidity that we can see repeating itself through history? Is stupidity in money matters hard wired into us?
So as I see it, these two fields of economics study completely different things with completely different methods. And as such they don’t contradict each other, just as a cookbook does not contradict a math book.
I don’t see them as enemies, I see them as complimentary for the most part, though maybe as a practical matter the Behavioralists go too far. Praxeology has epistimological limits. You don’t know why people act beyond trying to advance their well being, they just act. You can’t know what they’re thinking, what they value, what goals they have in mind beyond satisfaction, etc. While some people characterize this as a denial of empiricism it’s really an acknowledgement of it, because all it’s saying is we realize the conditions under which economic activity occur simply don’t allow for the control of variables necessary to do controlled experiments. It’s not like evolution where you can take some fruit flies, stick 'em in a tank and watch the process of speciation take place, repeat a few times with some similar animals, and make solid generalizations to the larger world.
Behavioralists want to understand the why of action, and that’s what they try to study. Perhaps stupidly and ineffectively so, but there’s nothing about what they do per se that would necessarily contradict praxeology unless they falsify free will on some level, in which case some actions either in full or to a certain extent are determinist, and thus predictable in a way that we currently think they aren’t. Because praxeology doesn’t give a damn about the why, it just takes purposeful action as a given and goes from there. It’s certainly not the case that why people make decisions is irrelevant, it’s just not something within the scope of praxeology’s ability to study, and perhaps any system’s ability. And that’s perhaps where the conflict is, because their ‘findings’ might suggest some deterministic nature to market action, but I don’t think it’s provable. They tie in a lot with technical analysis too, which makes sense because the simplest technical analysis is based on analysis of buyer and seller actions. Breakout and up trend for example, just basically state that at a certain point buyers will out match sellers, and this will jump the price of a stock for a while until it hits a new level of ‘resistance’. Now that’s ‘predictable’ with poraxeology in that you know it’s gonna happen, but they take it a step further and start looking at graphs for ‘signs’ or triggers that are common for some reason. And who knows, maybe they’re there for some institutional reason or something. Doesn’t negate praxeology so far as I can see.
Wait a few years and they will have a convenient over the counter drug to fix the economy. No seriously! We have got to deal with these animal spirits…
I thought that was what cocaine was for…
Hey, it worked in the 80s!
Maybe not emotions, but rational exuberance (not to be confused with irrational exuberance).
Asset bubbles are not caused by psychological phenomena. People may be mislead into doing stupid things en masse, but folks are not able to psychologically drive up asset prices across the board. Aggregate assets can only be denominated to the total availability of money and credit. In other words, if there are only $3 trillion dollars in the world, then theoretically, at any given moment, the sum valuation of all assets cannot be more than $3 trillion dollars.
So even if people think homes are going up in price, and bid homes up in price, the money to pay those higher prices, has to come at the expense of another asset class (people abandoning other assets for housing).
The only way assets prices rise in the aggregate (all classes) simultaneously is if the supply of credit is being expanded. If credit is constrained or limited, then interest rates have to rise (the cost of money) which would snuff our booms before they get started
This may be a little rough. It is nearly 4 Am for me. The gist however should be correct.
Did you read my article?
I never said anything about “all classes simultaneously”. Indeed my argument would probably break down if too many asset classes were included at the same time.
I totally agree that the rising interest rate effect is a dampener, on housing market bubbles in particular, as mortgages make up such a large fraction of the money supply. But they don’t account for the entire money supply and so I suggest your statement should read “snuff out booms after a while”. The interest rate effect would be analogous to the “heat source” in my article. Of course if interest rates are held artificially low for long periods and the money supply is allowed to increase then there are now two effects working together, rational exuberance and, ermmm, I don’t know the name for it… the too-low-interest-rate effect.
The main reason that I’ve put this forward is in re the emergence of Neuroeconomics (for an easy / instantiated example as to what Neuroeconomics is read http://www.ncbi.nlm.nih.gov/pmc/articles/PMC1502377/). As I see it, Neuroeconomics will inevitably converge with either Behavioral Economics or Praxeology (but not both). Personally, it seems to me that the application of praxeological methodology / structure to this field would be most appropriate; however, Behavior Economists are quickly gobbling it up… The importance of this potential merger of Praxeology and Neuroeconomics would be to expand the horizon of Praxeology, so as to create a more comprehensive system for understanding human action / behavior. To what extent y’all are familiar with Neuroeconomics remains a mystery to me (though given that most people have never heard of it, I’d image it’s rather shallow), but I would love to hear your thoughts on the matter.
I skimmed it.
Well that is what a bubble is. Per sector bubbles are just normal market ebbs and flows.
That was assumed.
My point is, rational exuberance is nonsense. Rational exuberance cannot overcome a lack of credit.
Really? I thought a bubble was just an irrational spike in prices of anything, that was followed by a bust. What about the tulip bulb price spike in Holland? Surely that was a bubble…
You haven’t really made your case to support that assertion.
I suggest you read my article properly before describing it as nonsense.
I’m pretty sure Tulip Mania was caused by an increase in the money supply. There have been some folks state that asset bubbles result from expansionary monetary policy. It’s not just Austrians either. Anna Schwartz said the same thing in an interview in some article that was in the Wall Street Journal. I think the Mises Store here also has a book about Tulip Mania, which I’d really like to buy and read sometime. Basically, people will say it’s an “irrational spike” or “irrational exuberance” …but that just totally misses out on why it happens. It’s actually pretty rational in a sense, when the demand for a product is increasing, especially if something is being bought with credit since central banks increase the money supply by increasing bank reserves, which are then lent out. People are being rational in that they see a price rising and therefore buy that thing and hold it till the price goes up further before selling it.
edit - so what I’m saying is that people are being rational in the economic sense when a bubble is created…but you could also argue that they’re being rational even in the general sense since they are seeing the price rise and therefore wanna invest in the product.
Mickanomics, what is rational, what is irrational? You don’t use these words in the Austrian sense. You’re assigning them to arbitrarily denote action you agree with or disagree with. That is why rational exuberance is nonsense.
Tulip mania was a monetary phenomenon. LvMI’s Doug French has researched and written extensively on this period.
A bubble is not simply a price spike. A bubble is a mis-allocation in resources. The price spike occurs due to that increased demand of said object and continued exhaustion of scarce resources allocated to that object. With less resources comes higher prices and with scewed incentivse by the state demand can be propped up where it wouldn’t have been otherwise on a natural free-market.
In a bubble demand typically falls off when people realize that there are no resources available for allocation of said object. In a bubble people are mis-lead into believing that they have all the resources they need for said object so they make the investment. Later on they realize they had been wrong and that is the bust.
alrighty, here’s the book Doug French wrote that I was thinking about. [:)]
I never knew that there was an “Austrian sense” for rational/irrational. Can you explain the Austrian sense to me.
It can not be purely a monetary phenomenon because that does not explain why the bubble should have been in tulip bulbs in particular. Why not gold or housing or fine art? Why tulips bulbs?