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University of Chicago scholar Richard Thaler was honored with the 2017 Nobel Prize in economics for his work questioning traditional assumptions that markets act rationally, and for taking human nature into account. Economics correspondent Paul Solman helps explain Thaler's theories, then Judy Woodruff speaks with Thaler about his honored work.
Now a look at the winner of this year's Nobel Prize in economics, announced today.
Richard Thaler is a professor at the University of Chicago's Booth School of Business. The award acknowledged his groundbreaking work in establishing the field of behavioral economics, which blends psychology with economics to better understand human decision-making.
We start with a little bit of background from our economics correspondent, Paul Solman.
It's part of his weekly series Making Sense.
PAUL SOLMAN, Economics Correspondent:
In Chicago's Millennium Park two-and-a-half years ago, Richard Thaler, the academic revolutionary who won this year's Nobel Prize for insisting, for decades now, that his field, economics, is wedded to distorted view of human behavior.
Economics teaches that we're all rational maximizers, mathematical machines, who use our big, brainy heads to carefully calculate every decision as we strive to reach concrete objectives, creating.
But look, Thaler explained:
RICHARD THALER, 2017 Nobel Laureate in Economics: After the '87 crash, when the market fell 20 percent in a day, and the Internet bubble, when the Nasdaq went from 5000 to 1400, and then the real estate bubble, which led to a financial crisis from which we're still trying to extricate ourselves, the idea that markets work perfectly is no longer tenable.
Thaler has been running his revolution from inside the belly of the beast, the University of Chicago, which boasts 28 other Nobel laureates practiced in traditional economics.
Collectively, they have created what's known as the Chicago School, predicated on the perfect efficiency of markets, in which prices rationally reflect all available information.
But Thaler started noticing market irrationality early in his career as an economist.
How economists think differently from other humans
The market would be up in January. It would go up on Fridays, down on Mondays. It would go up on the day before holidays. None of this made any sense.
But it was only when Thaler began doing experiments and publishing them that doctrinaire economists, whom he calls e-cons, began to admit some of the error of their ways.
Take the concept of sunk costs, time and money already spent. An e-con assumes everyone knows when to quit, cut their losses, move on. This group of Cameroonian students at first seemed to just as economics would predict.
Let's suppose you bought tickets to go to a concert over here at this fancy bandshell 40 bucks each. And the group is OK, but then it starts to rain. How long do you think you're going to stick around this concert?
But what if the sunk costs had been much higher?
How many of you would have a different decision about staying or leave leaving, if it was $500, as opposed to $40? Every single one of you.
I have to make my money worth it.
You have to make your money worth it.
And your point here?
Well, economists would say how much you paid for the ticket, tough luck, if it's $40 or $500.
You should just decide whether the music is worth the annoyance of the rain.
In the past few years, Thaler's behavioral economic insights have been applied by governments around the world, including ours. And how did he feel about being called the inventor of behavioral economics?
One guy can't create a field, but you can get people thinking.
And so he has.
This is economics correspondent Paul Solman.
For more, we turn to Richard Thaler himself.
He got the call that he won the Nobel at 4:00 a.m.
I spoke to him just a short time ago and began by noting, as we just heard, that he has been honored for recognizing that people don't always act rationally when making economic decisions, and asking if that is the way he sees his contribution.
Well, yes, although pointing that out is kind of obvious to everybody, except economists.
So, in some ways, it's pointing out the obvious.
But I think the contribution that I have made, and the young economists following in my footsteps have made, is saying, OK, what follows from there? How should we do things differently if people aren't perfect? And there's a lot of things we can do better.
What do you think the main consequence of your research has had on economics and on policy?
Well, on economics, I think it's made especially young economists more open to thinking outside the box.
I coined the phrase supposedly irrelevant factors for the kinds of things that economists are sure don't matter, like the way a letter is worded or what the default option is.
And these kinds of things are supposedly irrelevant because they're actually really important. So I think, on the professional side, that's the most important thing.
On the policy side, the work I did with Cass Sunstein, my former colleague, now Harvard law professor, in our book "Nudge" really shows how you can help people if you grant that they're not saving enough for retirement or they're overweight or they'd like to do more to save the environment, but aren't sure how to do it. What are the steps you can take to help people make better decisions?
Was your finding or set of findings as much a psychological-sociological observation as it was an economic one?
Well, I was borrowing findings from psychology and trying to incorporate them into economics.
So, economic models are pretty sterile, and there are these agents that really could be robots that calculate at lightning speed and aren't absent-minded and never eat too much or drink too much, kind of just like you and me.
But by fleshing out the way real people behave and our weaknesses, as well as strengths, people are nicer than economists give us credit for. We're more likely to contribute to charity. Or look at all the volunteers in these are hurricanes and other natural disasters. Economists have no explanation for why people would work for days trying to clear away rubble in an earthquake.
So, that's the nature of humans. I guess we call it human nature. And incorporating human nature into economics is what I have been trying to do for 40 years.
Someone said to me that part of what you have done is take the fringes of economics and make it respectable, bring it into the mainstream.
Yes, a lot of team have thought of me as a fringe player.
But, yes, I think — I often say I work in the gap between economics and psychology.
Psychologists know a lot, but most of them aren't very interested in public policy problems, and certainly wouldn't have a clue what to say about Federal Reserve policy or taxes or any of the other bread-and-butter issues that economists think about.
And most economists don't have any interest in psychology. So, there was a lot of ripe fruit for the plucking.
So, I'm going to take advantage of having you here.
Everybody's watching the stock market shoot up over the last several months. If you could spend a few minutes with every family in this country right now trying to make tough decisions about spending and saving and investment, what would you say to them about the market and about the economy in general?
Well, look, I think that the economy is strong. We have been on a nice ride since the depths of the great recession.
As far as the stock market goes, personally, I'm a little worried about it. There's no real explanation for why it keeps going up, other than interest rates are low and people aren't sure where to put their money.
So, if I were giving advice to people, it would be to say not to spend the 10 percent or 15 percent you have made most recently in the stock market, and maybe even take a little of that money off the table, if you're likely to need it any time soon.
Some advice from the latest Nobel Prize winner in economics.
Professor Richard Thaler, congratulations again. Thank you very much.
Thank you, Judy.
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