Abstract
This chapter discusses the role of methodological individualism in behavioral economics. Since behavioral economics developed in reaction to traditional microeconomics, the chapter sketches first the latter’s understanding of methodological individualism. It argues that traditional microeconomics is based on three principles: the self-interest principle, the rationality principle, and the social change principle. The chapter then discusses experimental findings that led behavioral economists to relax all three principles. It argues that, in particular, the relaxation of the social change principle pushes the boundaries of methodological individualism as understood in traditional microeconomics since it highlights ways in which social institutions, norms, and rules affect individual processes of preference formation. In doing so, behavioral economics invites intricate methodological discussions of the bidirectional relationship between social institutions and individual actions.
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Notes
- 1.
Becker (1976, p. 5) defends the assumption of preference stability; it “provides a stable foundation for generating predictions about responses to various changes, and prevents the analyst from succumbing to the temptation of simply postulating the required shift in preferences to ‘explain’ all apparent contradictions to his predictions.”
- 2.
Strictly speaking, each individual takes the price as given at the moment of choice and the market price that comes to prevail is an outcome of the choices of all individuals (Arrow 1994).
- 3.
Schumpeter used the term ‘sociological individualism’ to describe what many people today describe as ‘methodological individualism’ (Hodgson 2007, p. 213).
- 4.
See Heukelom (2014) for a comprehensive discussion of the history and success of ‘new’ behavioral economics.
- 5.
Like standard microeconomics, behavioral economics assumes that incentives still matter for individuals’ social preferences. When experimenters exogenously increase the stakes, recipients become more willing to accept unfair offers (Andersen et al. 2011).
- 6.
This is different from the standard assumption of exponential discounting in traditional microeconomics in which the discount factor is independent of the time horizon.
- 7.
A famous example in this context is the coffee mug experiment (Kahneman et al. 1990). Following a random allocation, half of the subjects get a mug and half of the subjects a chocolate bar of approximately the same monetary value. When trade is allowed between coffee mug-subjects and chocolate bar-subjects, fewer than one quarter of subjects will take up this offer. Yet, traditional microeconomics would predict that half of them should trade.
- 8.
For an overview of the applicability of prospect theory to real-world markets, see Barberis (2013).
- 9.
- 10.
- 11.
This sociologically enriched version of behavioral economics is supported by insights from evolutionary psychology (Heyes 2018) and anthropology (Henrich 2016, 2020). A core insight is that the sociocultural environment physically rewires people’s brains and thereby shapes how they think and what they want.
- 12.
According to Bowles (1998, p. 80), this durable preference change is a core aspect of preference endogeneity and differentiates it from mere preference instability: “preferences learned under one set of circumstances become generalized reasons for behavior. Thus, economic institutions may induce specific behaviors—self-regarding, opportunistic, or cooperative, say—which then become part of the behavioral repertoire of the individual.”
- 13.
The effectiveness of default rules (e.g., in the context of retirement savings, insurance plans, and organ donation) is sometimes explained along similar lines, see Fehr and Hoff (2011).
- 14.
For instance, when primed of their professional identify, bankers do not choose the lens through which to analyze the choice options; rather their active mental model is the outcome of an unconscious reaction to environmental cues (Hoff and Stiglitz 2016, p. 39).
- 15.
In doing so, strand two behavioral economics shifts the boundaries of methodological individualism as understood in traditional microeconomics, but not necessarily the boundaries of methodological individualism in general. For instance, in sociology in the tradition of Max Weber methodological individualism typically assumes that individuals’ preferences and beliefs are context-dependent, i.e., influenced by the material, social, and cultural environment.
- 16.
For a discussion of historical, social survey, and ethnographic data supporting this view, see Bowles (1998).
- 17.
Knight (1923, p. 587) further explicates: “the issue as to the influence of the economic system on character … should at least be raised. Emphasis will be placed on the particular phase of competitive emulation as a motive and of success in a contest as an ethical value. The competitive economic order must be partly responsible for making emulation and rivalry the outstanding quality in the character of the Western peoples who have adopted and developed it.”
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Dold, M. (2023). Methodological Individualism in Behavioral Economics. In: Bulle, N., Di Iorio, F. (eds) The Palgrave Handbook of Methodological Individualism. Palgrave Macmillan, Cham. https://doi.org/10.1007/978-3-031-41512-8_29
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