The Limits of Behavioral Economics...

An interesting op-ed by George Loewenstein in the NYT today on the limits of behavioral economics.  The timing is interesting as I have been thinking about this issue ever since I read Rajiv Sethi's post on the topic a couple of days ago (incidentally, he has now written a follow-up piece).

When I finished my MSc I had a very poor opinion of the rational actor model.  I had just read the reading material for Xavier Gabaix's behavioral economics course at MIT, and was enthralled with the work being done in the area...it seemed so much more advanced and relevant than what I had been taught in graduate school.

Now, however, I am starting to appreciate the rational actor model a bit more.  Don't get me wrong, I think that the rational actor model abstracts from the well documented cognitive biases that human beings exhibit when making decisions.  But I do not think that every economic puzzle can be explained by "irrational" behavior on the part of decision makers.

I am starting to think that the major flaw with the neoclassical (as well as the new-Keynesian) paradigm is that it relies on general equilibrium.  Many aggregate/macro economic behaviors that behavioral economists tend to explain using some model that relies on some type of agent irrationality might also be explained by locally rational agents interacting directly with one another...   

This is a really poorly written post...apologies...it is however a post that I think is on the right track...I just need to figure out a better way to formulate the argument...actually on second thought don't read this post! Read the new post by Rajiv Sethi that I linked to above.  He does a much better job...