“Rationality” isn’t always Rational

February 2, 2012

by Mario Rizzo

Over the past two years I have been reading more than I ever dreamed about rationality in economics, especially in the standard neoclassical theory of choice. I have done this because I want to get at the root of the controversies concerning whether people’s behavior is, in particular contexts, rational or not.  Claims about the rationality of individual behavior are very closely linked to important policy questions about state paternalism. The highly abstract is working its way down the line to practical policy issues.

In all of this I am well-aware of the argument that “rationality” is the result of market processes and of decisionmaking institutions. I have nothing per se against this line of reasoning. Nevertheless, I want to approach the issue on the terms espoused by many choice theorists and behavioral economists themselves. This is the idea that the axioms of rational choice have a normative importance in and of themselves. By and large, behavioral economists accept the normativity of standard rational choice even as they reject the descriptive reality of rational choice.

The funny thing about all of this is that, initially, the axioms of rational choice were supposed to shed light on how people actually made choices. Then a sleight of hand occurred. It was claimed that they shed light on how rational individuals would choose – without addressing the issue of whether people were in fact rational in the sense of the axioms. Finally, it was alleged – in the face of empirical evidence that people often did not choose rationally – that the axioms defined the norms of choice. They told us how rational individuals should choose. More than that. Since being rational is taken as “good,” they show us how people should behave – full stop.

What are these axioms? One can multiply them, depending on the problem at hand. For our purposes, however, the most important ones are: (1) the transitivity of preferences and (2) the closely related idea of the independence of irrelevant alternatives. I’ll give one example of each.

Suppose I choose an apple over an orange when each is available to me. And I choose an orange over a pear when each is available. Transitivity demands that I must choose an apple over a pear when each of these is available. If I don’t, then I am “irrational.”

Independence is a related idea. Suppose I choose an apple instead of an orange when each is available.  If I am offered an apple or an orange or a pear, I will not choose an orange (although I may now choose the pear). The offer of a pear is irrelevant to the choice between an apple and an orange. It must not make a difference – if I am rational.

It may seem as if these axioms are indeed consistent with rational choice. They can but need not be.  They are not necessitated by rationality more broadly considered. In other words, we can easily come up with counter-examples that are also consistent with broad rationality. Even more significantly, the counter-examples reveal the inadequacy of the narrow, more technical version of rationality.

Counter-example to transitivity: Let us imagine a dinner party of polite people. Your preferences for fruit are as follows:  A large apple is preferred to an orange. An orange is preferred to a small apple.  The host is out of oranges. So he offers you either a large apple or a small apple. Transitivity requires that you choose the large apple. Politeness seems to require that you choose the small apple. And so you do. Are you irrational? Most people would say no.

What has happened?  The binary option itself changed the meaning of the choice. The choice now means more than just getting the apple; it means revealing something about your character as well. Note that if you had been offered the ternary option (large apple or orange or small apple) it would have been plausibly acceptable to choose the large apple.

What this means is that it is not irrational for an individual to choose intransitively. If a large apple is preferred to an orange which is preferred to a small apple, then the individual “should” have chosen the large apple in the binary case. But he did not.  Nevertheless, he is rational in the broad sense.

Counter-example to independence (from Amartya Sen):  Suppose a well-mannered and rather conservative lady has the following preferences. She would prefer to have tea with her cousin to not having tea with him. Suppose now he gives her an additional alternative, that is, to have tea and some cocaine with him. The new option itself tells her more about him. With such a person she would now prefer not to have even a simple tea. Thus while a simple tea is preferred to no tea when the third option is not available, this preference is reversed when given all three options. She chooses no tea at all. But the lady is nevertheless rational in the broad sense.

It is not hard to imagine that the proponents of the normativity of the standard axioms would have a response. The response is essentially to re-describe the behavior and thus save the axioms. In the first counter-example the proponents might say that the preferences were conditional on the demands of politeness being served or not being at issue. They would say that we sneaked a new object of choice into the mix: displaying politeness. In the second counter-example the proponents would say that we have introduced new information. The initial binary preference was conditional on the cousin being a conventional-type while the new option alters that conditional.

These responses, however, do not work as a consistent strategy. They are seriously ad hoc. We can see this for a number of reasons. First, the analyst only worries about these counter-examples because they are consistent with a higher or more basic notion of rationality. They show the technical notions in a bad light. Thus, the urge to re-describe effectively concedes that the technical axioms are deficient both descriptively and normatively. Second, the counter-examples show that objectively (that is, analyst) defined or characterized options do not capture either the meaning or the knowledge-context of choices.  Third, the logic of transitivity and independence is static. In other words, this logic strictly applies to preferences at a single instant in time when meaning and knowledge are unchanged.  In the counter-examples given, however, the addition or subtraction of options produces a change in meaning or knowledge. So the previously-defined options have changed.  The agent cannot choose the initial small apple or simple tea. They no longer exist.  Thus we cannot make inferences from the initial choices to the “subsequent” choices.

What are we to conclude from this? Are we to say that the behavioralists are right after all? The behavior illustrated here is not rational. It certainly is not rational in the sense meant by those who espouse the standard axiomatic version of rationality. But since it is quite plausibly rational in a broader sense of the term why should the failure to conform to the axioms bother us?  It might bother us if our only task were to explain or predict behavior. The model does not do the job.

On the other hand, there is no basis for claiming that the transitivity or independence axioms are general norms of rationality. The behavior of individuals need not be “corrected” by policy. To attempt to do so would seem quite arbitrary.

The behavioralists may well be correct that people do not act in accordance with these rationality axioms. But they are surely wrong in claiming that they ought to behave in this way. The problem is not with deficient individuals. It is a problem of deficient rationality standards.

36 Responses to ““Rationality” isn’t always Rational”

  1. Lee K. Says:

    Dear Professor Rizzo,

    I am a student working on several papers for my dissertation, most of which involve various issues of rational choice, particularly its intersection with collective action problems, welfare economics, and utility maximization. Like many other aspiring economists, I regularly frequent various economics blogs in search of inspiration, knowledge, and distraction. I happened to encounter your blog, and was surprised to learn that you you have confronted some of the problems I have encountered in preparing my dissertation, problems which are not often thoroughly discussed.

    Because of my slightly excessive fear of straw manning and irrelevance, I am constantly in search of more books and articles about rationality in economics so that I can know exactly what economists did and do think about rationality within their science. Would you mind naming some of the books and articles you have been reading over the past two years or earlier that seem particularly important to you? I would be extremely grateful.

    Best regards,

    Lee K.

  2. Peter Lewin Says:

    This is priceless – maestro Rizzo at his best. Worth saving.

    I have three, maybe related, comments.

    1. Reading the post made me recall Lachmann’s summary of standard choice theory. “Its all very well until the consumer changes his mind.”

    2. When I talk about “rationality” in my classes I adopt Mises’s story of purposeful behavior. Rationality is an *assumption* necessary to do economics (or social science in general). It assumes no more (and no less) than the consistency of means and ends in the mind of the human actor. Therefore, the pronouncement that someone’s action is “irrational” can mean only one or both of two things: a. the actor has different ends (goals) than we do (for him). b. the actor has deficient knowledge of how to achieve his ends (i.e. we have superior knowledge). The first entails the imposition of our ends for his – a moral judgement. The second entails assuming we now better than he how to achieve his ends – an arrogance – and if elevated to the policy level that we have the right to impose our means for his.

    3. As I explain at the link below, using the reasoning in 2. often leads to the mostly unstated value-judgement that individuals *should* be regarded as the best (rightful) judges of their own welfare, i.a.w. to a negation of the behaviorist economics agenda.

    http://www.utdallas.edu/~plewin/factsValuesandtheBurdenofProof.pdf

  3. Peter Lewin Says:

    A postscript: Is it correct to say that adopting Mises’s approach would lead to the kind of reformulation story that Mario describes, but not to its policy implications – its ad hocary?

  4. curtd59 Says:

    I tend to be suspicious of these arguments either way, unless we use concrete examples.

    People are as rational as their subset of knowledge and trust allow them to be. They are rational if they change their position in response to the schooling and flocking of those around them. They are rational if they are ignorant of the means by which to avoid errors. They are rational if they are from different social classes with different habituated time preferences. Rationality implies a completeness that cannot exist outside the domain of the rules expressed by the person asking the question. Rationality is not a hurdle it’s a spectrum.

    Even the human penchant for what we call the category of statistical error is not irrational. It’s simply ignorance. It’s not that we can’t train people differently.

    Most of the time, if we examine a specific argument, people are rational given their knowledge, trust, incentive and opportunities. As Peter Lewin suggests above – within the scope of human action, people are pretty rational.

    In fact, it’s hard to argue that it’s possible to be irrational. It’s possible to argue that someone’s explanation of his or her choices is irrational – until we understand that it’s rational to do many things just to stop temporary emotional pain or frustration – or conversely, to gain temporary emotional pleasure or ease. In fact, most arguments that people are irrational are based upon a prejudicial falsehood: that the network of preferences that any individual employs can be reduced to a single event. And that the priority given to that even is symmetrical between the individuals we are comparing.

    They aren’t. I might argue that they CANNOT be, and therefore claims that people are irrational are merely dysfunctional acts of fraud in an attempt to assert one’s preferences over that of others.

    But that is the purpose of politics – isn’t it? :)

  5. Greg Ransom Says:

    Economics science is about causally explaining the empirical problem of the undesigned order displayed in the meshing of individual plans across time.

    And the logic of choice was developed to help limn this pattern so as to perceive it and then explain it … and the logic of choice was not developed to explain individual behavior, and it fact does not explain it.

    Hayek pointed out these fact repeatedly in a number of extremely famous writings.

    The mistake of getting the task of economics wrong and thereby the explanatory target of the logic of choice is due in the first instance to the mistakes of Mises and Robbins.

    The publish or perish profession of academic economics has merely built this mistake on stilts.

    Is there any hope of talking the professors down off of their stilts?

    I doubt it.

    The game is too fun and too rewarding, and the problem of explaining overall economic order is too far from the self-interested agenda of the professors.

  6. Greg Ransom Says:

    Philosophers of science once made mistakes equivalent to that of the economists — indeed, “decision theory” descends as much from Carnap tradition and the philosophers as it does from the economists.

    But the whole thing was put to flames when Kuhn exposed how norms of “rationality” were dependent on evolved, imitated and developed practices and evaluation standards situated within communities, and the whole formalist literature on inductive “decision” procedures really had nothing to do with scientific rationality.

    On the whole topic see for example, W.H. Newton-Smith, _The Rationality of Science_ and my paper on Thomas Kuhn and evolving desiderata for theory choice:

    http://hayekcenter.org/ransompapers/Thomas_Kuhn_and_Membership_Selection.html

  7. Xerographica Says:

    Lee K…not sure if this is of any use to you but here’s my extended take on ignorance…

    http://pragmatarianism.blogspot.com/2011/12/taxpayer-division-of-labor.html

    ….here’s another perspective that might be of some interest…

    http://www.coordinationproblem.org/2011/12/could-it-be-that-the-mistake-theory-of-government-policy-is-mistaken.html

  8. Luis Enrique Says:

    If the proponents of rational choice theory have the ambitions you describe, so much the worse for them. I agree the theory falls short.

    But what about a less ambitious agenda? The way I have always thought about this [*] is that we were after a very simple model that gets at the bare bones of decision making. Informally you might approach this task by saying: “okay, we want to understand how people make choices, let’s start by saying they preferences and then try to do the best they can, given constraints and these preferences” and then when you try to write down that simple approach formally – precisely – you end up with the “unrealistic” assumptions we are all familiar with.

    And you may do this knowing full well that in reality all manner of other things impinge upon our decisions (context sensitivity etc.) and that our preferences evolve in all sorts of ways that are not captured by seeing them as static and exogenous, and so on and so forth. There a very many things that happen which are not accounted for in basic rational choice theory. And you would be very happy to extend basic theory in these directions that take it closer to reality, if you are capable of doing so. But your approach is to start with the skeleton before adding flesh.

    Seen this way, the defence of rational choice theory is that which you characterise as ad hoc. These counter examples are explained by the introduction of considerations that have been simplified away. I don’t quite understand why that does not constitute a “consistent strategy” that defends/justifies rational choice theory.

    [*] of course, I may very well have completely misunderstood what I was being taught, but I always understood the intention to be more modest.

  9. Lee Kelly Says:

    Urgh!

    What a ridiculous debate to even have to engage in. The concept of ‘rationality’ among economists is such a transparently stupid idea that “belief” in it mostly depends on what conclusions can be squeezed out with it.

  10. Allan Walstad Says:

    Maybe it’s time to set the word “rational” aside and talk directly about our assumptions regarding how humans choose their actions (or how whatever they do may be determined if not through choice).

  11. Hume Says:

    I’m wondering if Nozick’s idea of symbolic utility (see, e.g., The Nature of Rationality) can have a role to play here. Just a thought.

  12. Troy Camplin Says:

    Rationality is contextual, depends on the social situation/spontaneous order. Different spontaneous orders give rise to different rationalities. Mistakes are made when we try to apply the rationality appropriate for one order to another.

  13. chidemkurdas Says:

    Re Mario’s post– “But since it is quite plausibly rational in a broader sense of the term why should the failure to conform to the axioms bother us?”
    This is a useful distinction. The neoclassical axioms are a special, very narrowly defined case of rationality.

  14. Paul Says:

    Hi Mario, excellent post. One important issue that Demsetz has raised in the context of the Coase Thm debate is relevant here. The narrow concept of rationality was developed to describe behavior in the context of a decentralized market, one in which preferences are stable, individuals have sufficient information, etc. When the context of the decentralized market disappears so does the descriptive force of neoclassical rationality.

    But, in general, I completely agree with your main point that many people blindly accept that rationality is a normative standard in behavioral economics and there is little justification for this.

  15. Mario Rizzo Says:

    Lee,

    I would recommend two articles by Amartya Sen. The first is “The Internal Consistency of Choice,” Econometrica 1993, pp. 485- 503 is the best part; “Behaviour and the Concept of Preference,” Economica, 1973. I also recommend Daniel Hausman’s new book, Preference, Value, Choice and Welfare. Maurice Langueux, “the Forgotten Role of the Rationality Principle in Economics,” Journal of Economic Methodology, 2004. Ken Binmore, Rational Decisions is also a good book. Finally, take a look at my syllabus on behavioral economics in a recent post here.

    Good luck.

  16. Luis Enrique Says:

    Are there people who think rational choice theory tells you how you ought to behave at a dinner party?

  17. Greg Ransom Says:

    It ain’t a “market” .. it’s a mathematical entity ..

    “The narrow concept of rationality was developed to describe behavior in the context of a decentralized market, one in which preferences are stable, individuals have sufficient information, etc”

  18. Greg Ransom Says:

    It’s not “behavior”, it’s a set of math functions …

    “The narrow concept of rationality was developed to describe behavior in the context of a decentralized market”

  19. Lee K. Says:

    Professor Rizzo,

    Thank you very much! You have been a big help.

  20. Potpourri Says:

    [...] Mario Rizzo is clearly not one of us. He writes, “Over the past two years I have been reading more than I ever dreamed about rationality in [...]

  21. MGM Says:

    I agree with the sentiment expressed by Dr. Rizzo that “The behavior of individuals need not be “corrected” by policy.” However, let us not lose sight of the underlying theory animating this approach: the non-neutrality of the environment in which choices are made. That, for example, is the central message in libertarian paternalism.

    So, while libertarians are perfectly within their right to reject the idea that policy-makers can or should correct choices people are inclined to make, they still must grapple the idea that, ABSENT policies directing individual behavior, the choices people make are actually neutral or “purposive” (in Mises’ terms). That is just not so. People never make choices on their own. Their choices are ALWAYS framed in some way.

    That is really the attack on libertarianism. And libertarians need to respond to that. Can a choice ever truly be neutral (and purposive)???


  22. [...] Mario Rizzo discusses why being ‘rational’ isn’t always rational. [...]


  23. We don’t have a preference until after we’ve made a choice, and once we’ve chosen then our choice becomes our first choice irrevocably and despite other options — the psychological process leading up to this doesn’t matter. This is just a rule we agree to abide by when we enter into the free market. So this psychological approach strikes me as in error from the get go.

    The issue would be better resolved by thinking about knowledge as something objective — as per Karl Popper in his book, _Objective Knowledge_. Until we’ve objectified our own preferences, we can’t improve upon them. Once objectified, we can then criticize our choices and improve them. The free market is the system where by this can happen en masse — as per F. A. Hayek in his famous essay “The Use of Knowledge in Society.”

    It’s not an accident that Popper and Hayek were great friends.

  24. Xerographica Says:

    Matt Dioguardi, I’m also a huge fan of Hayek’s essay on partial knowledge. So I’m curious…do you think that taxpayers should be allowed to directly allocate their taxes? For example, at any time throughout the year you could just go to the Environmental Protection Agency website and directly submit a tax payment.


  25. @Xerographica:

    I honestly don’t know. Taxes is a really difficult issue, along with what role if any is the role of government. That seems like a separate issue to me.

  26. Xerographica Says:

    Matt Dioguardi, how is it a separate issue? How many people does it take to answer the question of what the private sector should produce? Every single one of us… right? So why would the answer be any different when asking the question of what the public sector should produce?

    Here’s a recent comment of mine where I discuss the military in terms of partial knowledge…

    http://bleedingheartlibertarians.com/2012/02/john-tomasis-free-market-fairness/#comment-432471504


  27. [...] Journal, on the issue of intransitivity and rationality in choice.  As luck would have it, Mario Rizzo — who is teaching a course on behavioral economics this term at NYU — just posted about [...]

  28. Mario Rizzo Says:

    Matt,

    “Until we’ve objectified our own preferences, we can’t improve upon them. Once objectified, we can then criticize our choices and improve them.” This is very interesting. Does Popper actually write about this? Or are you simply applying Popper’s general stance to this issue?


  29. After reading the article and a few of the comments. I strongly suggest that all concerned read Daniel Kahneman’s current book “Thinking Fast and Slow.” DK won the Nobel Prize in econ, even though he is a psychologist, for his work on decision theory. This work had a great influence on behavioral economics. Here is a quote from the review in the NY Times: “Most of us are healthy most of the time, and most of our judgments and actions are appropriate most of the time,” Kahneman writes in his introduction. Yet, just a few pages later, he observes that the work he did with Tversky “challenged” the idea, orthodox among social scientists in the 1970s, that “people are generally rational.” The two psychologists discovered “systematic errors in the thinking of normal people”: errors arising not from the corrupting effects of emotion, but built into our evolved cognitive machinery.”

    Kahneman talks about 2 systems of cognitive decision-making: one that is rational and one that is automatic and intuitive. In many instances, the automatic system works just fine but not if difficult decisions have to be made. Unfortunately many people use the intuitive system even when they shouldn’t. That’s when they may be irrational.


  30. >This is very interesting. Does Popper actually write about this? Or are you simply applying Popper’s general stance to this issue?

    Um … just to give you an idea of what I am talking about, Popper early on in his career talked about what he called the logic of the situation:

    “Continuing this argument against psychologism we may say that our actions are to a very large extent explicable in terms of the situation in which they occur. Of course, they are never fully explicable in terms of the situation alone; an explanation of the way in which a man, when crossing a street, dodges the cars which move on it may go beyond the situation, and may refer his motives, to an ‘instinct’ of self-preservation, or to his wish to avoid pain, etc. But this ‘psychological’ part of the explanation is very often trivial, as compared with the detailed determination of his action by what we may call the logic of the situation; and besides, it is impossible to include all psychological factors in the description of the situation. The analysis of situations, the situational logic, plays a very important part in social life as well as in the social sciences. It is, in fact, the method of economic analysis.” Karl Popper, _The Open Society and Its Enemies, vol. II _ from chapter 14.

    He develops this idea in many different places, but especially in _Objective Knowledge_, chapter 4, “On the theory of the Objective Mind” where he talks about it as situational analysis.

    Popper sees a claim about the world or even about ethics as having implications and consequences well beyond what any *one* mind can conceive of. Not only this, but its truth, of course, has nothing to do with the person who might have invented the claim. For example, E=mc2 isn’t true because of what Einstein thought about it.

    So when we give a claim an *objective* form — it becomes something everyone can examine and potentially criticize. It has an existence in this sense, as something apart from us. It’s *objective* — like an real object that’s out there apart from any one person. Popper’s argues in _Objective Knowledge_ that even “problems” can have an objective form like this — this leads to his discussion about situational analysis.

    This might sound a bit odd when we are talking about personal preferences — but not really. As our knowledge of the world is imperfect, how can we know what we really want in some infallible sense? Obviously, there is a deep connection between what we know about the world (our current set of theories) and that which we want … as our knowledge of the world changes our preferences can radically shift. (This is the issue which you are addressing, I think.)

    Anyway, we make a choice, and this choice has an impact on the market — prices will shift and this will act as feedback for us. There’s an objective process taking place external to our own subjectivity — and this process is in a way helping us gain knowledge about our own preferences (which in themselves are not really static.)

    For this process to take place there are a lot of traditions that have to be in place — otherwise it won’t work. These traditions aren’t *necessarily* rational — nor is our decision *necessarily* rational. In fact, we could look at on our decision as a test or an experiment about what we *think* our preferences are.

    Actually, I can give you two useful links where ideas similar (though not the same) to this are discussed.

    There is an on-line email exchange between Mark Notturno and Kelly Ross where Notturno (a student of Popper’s) was criticizing Hayek as not really being a fallibilist when it came to the issue of the free market — but Ross defends Hayek by comparing Hayek’s ideas on the free market with those of Popper on the open society.

    Here, I think Ross has the better argument. There is a parallel between Popper’s arguments for the “open society” and Hayek’s arguments for the free market.

    Here is the link:
    http://www.friesian.com/notturo.htm

    Especially see the message dated “11:22 AM 8/26/98″ –

    Also, Rafe Champion makes the argument that Austrian economics need not be viewed as an infallible axiomatic system, but instead as a sort of fallible research program. He discusses this here:
    http://www.the-rathouse.com/rc_popperpaper.html

    If you check out Champion’s paper, make sure to read the addendum about Lawrence Boland’s book, which is probably also worth checking out.

    I probably need to think more about all of this myself but was just offering some intuitive thoughts.

    I hope this helps a little.

  31. John Says:

    Of course there’s probably a semantic game in play as well here. Lets face it, if “irrational” is universally bad then we need to exclude irrational numbers from our number system.

    That’s hardly rational.

    But I agree that in the economic context that attempt to label choice (or the actor) irrational merely because choices are not transitive leaves a lot to be desired.

  32. Marcus Says:

    Interesting post. I come from philosophical background and found it interesting that your conclusion is similar to one of the arguments Edward Stein brings up in his very readable book “Without Good Reason”.

    http://www.oup.com/us/catalog/general/subject/Philosophy/Epistemology/?view=usa&ci=9780198235743

    “Counter-example to independence (from Amartya Sen)”

    Do you perhaps remember from which article from Sen that counterexample (or a similar) is found?


  33. [...] have given “rationality” a bad name. Mario Rizzo explains: [T]he axioms of rational choice were supposed to shed light on how people actually made choices. [...]


  34. [...] Journal, on the issue of intransitivity and rationality in choice.  As luck would have it, Mario Rizzo — who is teaching a course on behavioral economics this term at NYU — just posted about [...]


  35. continuously i used to read smaller articles or reviews which
    as well clear their motive, and that is also happening with this paragraph which I am reading
    here.


  36. You are right that the response to failing in rational prediction is to expand the model. Come up with a utility value for politeness etc. What is obvious is that this becomes silly at some point. The world is more complicated than our models can ever hope to be. The more variables the model has the more room there is for error. The greater the risk that the model with detach from reality.

    So, what is remarkable is not that the modeling exercise fails… but, rather, that it ever works at all! That in certain constrained conditions people *are* like simple rational automata. That some of the time simple equations *can* model the behavior of crowds.


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