Venu says

I find it worrisome that you are making quite strong claims (global warming can be handled by markets alone) and then casually stating that you don’t have any evidence for them.

No! I didn’t say that.  All I say is that we will not act on Global Warming at the optimal time. To use an overworked analogy – Hitler. Perhaps there was a time at which he could have been tackled without the enormous carnage of WWII. My view is that given what human nature is, this was unavoidable. We aren’t good at foreseeing and agreeing to act on uncertain threats in the distant future. We are, however, good at getting our act together in the face of a crisis. When we do try to fix problems too distant in the future, we make a lot of mistakes and there is a good chance that we make things worse. So, I propose that we go with the flow and not do anything about Global Warming, and leave things for our children to fix. When we do fix it, we will probably not rely on the market entirely, but we will still be relying on market-like mechanisms.

Ritwik says

Isn’t the market nothing but an aggregation of human behaviour? If you’re agreed in theory and premise with the behaviourists (about hyperbolic discounting, etc.), how are your recommendations so different from the ones they make – why do you (and others like you) consider subject matter expertise to be so important in say, science, but not in policy?

Because behaviourists have not yet come up with practical and actionable recommendations. I know that you have written out the theory of how behavioural economics will prove the EMH wrong. But behavioural economics, while it explains very well why bubbles form, is still unable to tell us the exact, or even approximate moment at which the bubble will burst. Without that, we do not know how to profit from the irrationality of the stock markets.

Likewise, all their “policy recommendations” amount to:

  1. Here is a behavioural quirk that causes ordinary human beings to behave in a way not predicted by standard economic theory
  2. Here is a policy recommendation that fixes the above, which we will assume, for the purposes of simplicity, will be put in place by detached technocrats not subject to the quirks above.

We do not yet have a model of human behaviour that can be used to make predictions about the impact of specific policies when all behavioural traits are considered, and when the fact that even policy-making and implementation is subject to the same quirks is considered. Given this, I did the only scientifically responsible thing possible – I used behavioural psychology to understand (science) but not recommend (policy)

Not everything reduces to incentives, at least in the way that we formally study them. Incentives are great at explaining the average truth, the usual explanation for why something happens. They fail miserably when explaining fringe behaviour or initiatives to tackle fringe issues. By fringe here, I mean not unimportant, but at the edge of our knowledge, efforts and motivations. Of course, one can use a slippery definition of ‘incentives’ and then everything can be considered a function of incentives.

What has this got to do with my post?

And at the end of it all, I am still wondering what your point is. Is it that we won’t be able to ’solve’ global warming, assuming that it is a problem in the first place?

See above – that we will not be able to solve Global Warming at the “optimal” time, and that we shouldn’t try to solve problems too much in advance.  Also, correcting for market failure is not a simple thing.

Markets and the Long Term

The Economist has an article on the problems of aligning the CEO’s interests with those of the shareholders. The obvious solution to this  is to ensure that a large proportion of the manager’s compensation is in the form of shares or stock options. But it turns out that during the recent financial crisis, the more shares of a bank its CEO held, the worse the bank performed.

I believe that this is confounding two different problems. The agency problem relates to aligning an incentives of the agent (i.e. the CEO) to that of the principal (i.e. the shareholders).  The second problem is that of translating long term goals into short term actions.

Human beings are not very good at solving the second problem even when the principal and agent are the same people. We aren’t good at planning our own diet and exercise so that our long-term health is maximized. The challenge is not only the intellectual one of long-term planning, it is also one of the incentive to execute the plan. Who wants health food and rigorous exercise when fried stuff and indolence are so pleasurable?

Continue reading

The Hackneyed Man From the Past

Gaurav non-Sabnis thinks that  the use of the man-from-the-past technique in my Pragati editorial ”The Case for Freedom” was hackneyed.  He is free to think so. He also thinks that my introduction was inaccurate. He is free to think so too as long as he doesn’t mind being mistaken.

Gaurav makes two errors - a misinterpretation and a factual error. The misinterpretation is this: He says that “mismatch between supply and demand must be as old as beginning of trade”. Well, duh. Obviously, a famine is a severe mismatch between the demand for food and the supply of food. If I had said that there is now a greater mismatch than before, it would have been an extremely stupid statement.

Continue reading