Archive for the ‘Behavior Eco/Fin’ Category

How to make GST a success by nudging people to go for pucca bills…

August 16, 2016

All kinds of ideas are emerging on how to make GST a success. Right from prescribing the right revenue neutral rate (why use such a complicated term) to state participation, all is being written and discussed.

Dhirendra Kumar of Value Research gets to the basics and looks at this issue of people preferring kaccha bills (fake) over pucca bills (authentic) to avoid taxes. After all, much of GST is around this idea of paying only value added tax across goods and services. This will require proper billing across the cycle for the tax to work.

How will the government ensure people will suddenly switch to a proper billing system and pay taxes? He points to this interesting solution – Taiwan Uniform Invoice Lottery:

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Using prospect theory to figure today’s monetary policy and its impact on markets..

August 12, 2016

Prof Jayant Varma of IIM Ahmedabad has a nice post which gets to the crux of the negative interest rate issue.

He says as bonds have negative rates, the concept of yield/coupon etc is lost. So, investors are looking at bonds in terms of prices alone just like stocks. Whereas, investors are looking at stocks as bonds as they give dividends. So bonds are the new equities and equities are the new bonds.

This is like the prospect theory applying in monetary policy as risk averse bond investors are seeking risks in wake of losses:

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A short primer on behavioral economics..

August 11, 2016

Eyal Zamir of Hebrew University of Jerusalem (Faculty of Law) has a short piece on behavioral economics. Paper is titled as law and economics but much is on economics. After all economics is seen as much cooler than anything else.

The author discusses various heuristics and how that distorts the rational thinking. He also points to the criticism on the field.

A host of critiques have been leveled against JDM research, as well as its implications for economic analysis in general, and for economic analysis of law in particular. One critique is that the JDM research agenda has over-emphasized the instances in which heuristics lead people astray, when in fact heuristics are an excellent, fast, and frugal way of decision-making in most cases (Gigerenzer, Todd et al. 1999). While this contention may well be true, its implications appear to be limited—akin to asking whether the glass is half empty or half full. Some commentators, especially those concerned about the possible paternalistic implications of JDM studies, have questioned the external validity of JDM laboratory findings, arguing that they may disappear with monetary incentives, or that the market is expected to drive out bad judgment (see, e.g., Mitchell 2002). However, these claims run counter to the findings of thousands of empirical studies. These include studies attesting to the prevalence of cognitive biases in real-life behavior and studies demonstrating that incentives often do not eliminate biases, and sometimes even exacerbate them. Moreover, while market competition may possibly drive out firms whose managers fall prey to cognitive 9 biases, competition concomitantly strengthens the incentive for suppliers to exploit consumers’ biases.

Finally, an important critique commonly leveled against behavioral studies is that they produce a long list of heuristics and biases, rather than a unifying, simple model of judgment and decision-making of the sort provided by RCT. In response, considerable progress has been made in recent years in systematization and theorization of JDM. However, ultimately one must concede that there is an inevitable tradeoff between descriptive validity and simplicity. As Kahneman has put it, “life is more complex for behavioral economists than for true believers in human rationality” (Kahneman 2011, p. 412). Disregarding this complexity and pretending that people are rational maximizers is not a compelling strategy for legal theoreticians and policymakers, since the law has a powerful impact on the real lives of real people.

Behavioral thinking is just one of the ways to provide alternative thinking to the rational school. Neither it is “the framework” nor the researchers should push it on those lines.

It has been known that  people are not rational and assuming the same is oversimplification. But due to lack of ideas on the same, the assumption continued. This was challenged by psychologists like Kahneman and Tversky who provided with frameworks to think through how behavior influences economic decisions.

The problem is rational school remains the dominant way of teaching in economics. Beh eco remains in the fringes and at best offered as an elective in few places. So it does not help students appreciate an alternative framework. This is where bulk of the trouble has always been. Let students figure which framework suits them rather than just fight amidst each other for superiority.

There is space for everyone in the game..

Debate between efficient finance school and behavioral finance school…

August 9, 2016

The two leaders of both the schools – Profs. Eugene Fama and Richard Thaler – debate over financial markets (HT MR blog) .

Nice bit..

Using behavioral insights to figure UK Police’s 101 phone calls

July 29, 2016

Simon Ruda and Alex Tupper of UK’s Behavioral Insights Team have a piece on the analysis.

UK introduced a phone number 101 to address all police related issues. This led to lot of calls which had nothing to do with police. Could BIT help find patterns for the Police to seperate calls to attend vs not t attend?

When conducting the analysis, as ‘inappropriate calls’ weren’t coded in the data, BIT assumed that any phone calls which were resolved in under 30 seconds were likely to be inappropriate for the Police (i.e. where the caller was quickly told their enquiry wasn’t something the police deal with).

One of the most intriguing findings was that the proportion of inappropriate calls received is dramatically reduced if the call waited at least five seconds before being answered. It could be that just five seconds of ringing time is enough to enable the caller to reflect on the purpose of their call and its appropriateness for the police.

As the graph below shows, around four in every ten calls answered within 1 second were inappropriate, whereas only one in ten of those that wait at least 6 seconds are. The possible conclusion from this analysis is that a ring time of just 6 seconds could help cut down inappropriate calls, enabling those in real need of support to be prioritised and more rapidly assisted by the police.

101

Hmmm..Interesting stuff..

 

You sound cooler if called a behavioral economist instead of a psychologist…

July 15, 2016

Adam M. Grant of Wharton School has a piece highlighting this dilemma. He is a psychologist but is often introduced as a behavioral economist on order to sound cooler and be heard.

He says this change in events is ironical as most contributions to so called beh eco comes from psychologists:

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Revisiting the tax compliance problem using prospect theory

July 12, 2016

R. Kavita Rao and Suranjali Tandon of NIPFP have this interesting paper.

Should one file or not file a tax? What are the behavioral implications?

The paper presents a model for tax compliance based on prospect theory wherein an individual makes the decision whether to file, and declare a certain amount of income, or to not file based on a set of policy parameters as well as his/her preferences. The paper poses the question- at what incomes would individuals choose to file a return and answers the same using a model based on prospect theory. Further, simulations are presented to illustrate the impact of changes in tax rates, penalty and audit probability on the individual’s preference to file. The results from the simulation show that for different values of policy parameters there exists crossover income at which individuals would choose to file a return. Given all else, at the exemption threshold of 0.1 million, individuals would choose to file a return at incomes greater than or equal to 0.6 million.

Hmmm…

One would like to also read on an experiment verifying the model..

How behavioral economics explains voting for Brexit..

July 8, 2016

Chris Dillow, uses ideas from behavioral economics to explain why people voted for Brexit despite it harming their economic opportunities.

This Brexit vote is actually nothing new. People have voted in the past which doesn’t explain

We economists – especially those of us who are on the left – have got a problem: voters don’t agree with us.

Events a few days ago demonstrated this. But it is in fact a longstanding issue. For years, and around the world, voters have had attitudes opposed to ours. They have been more hostile to immigrants and benefit claimants and more supportive of austerity and inequality than we would like. (This isn’t just an issue for the left: voters also have anti-free market attitudes.)

Why is this? I want to suggest that it is because Marxists were right all along. It’s because capitalism generates an ideology which opposes sensible radical reform. The idea of false consciousness should be taken a lot more seriously.

I came to this view via an apparently circuitous route. In my brief and ignominious career in finance, I learned about behavioural finance. This field, inspire by Daniel Kahneman’s work on cognitive biases, is the idea that people make small but systematic errors of judgment when managing their money. But this raises a question. If people are subject to cognitive biases when they have big incentives to be right – when they are investing their own money – might the same be true in politics, where their incentives are less sharp?

Some experimental research suggests the answer is: yes.

So what explains?

I suspect three mechanisms helped here. One was wishful thinking.

Another is prospect theory. This tells us that people who feel they’ve lost want to gamble to break even. This is why they back longshots on the last race of the day or why they hold onto badly performing stocks. The thing motivated many Leavers. People who had lost out from globalization, or felt discomfited by immigration, voted Leave because they felt they had little to lose from doing so.

The third mechanism has been discovered recently by David Leiser and Zeev Kril. They show that laypeople’s thinking about economics is dominated by what they call the “good begets good” heuristic. People believe that good things have good effects.

This, I suspect, explains a lot. People think controlling the public finances, or controlling immigration, are good things, so they must have good effects. I shouldn’t need to tell you that it ain’t so. In this context, the slogan “Vote Leave, Take Control” was an act of genius. It appealed to the “good begets good heuristic as well as to the fact that people facing uncertainty and feeling distrustful of elites want more control for themselves. (Perhaps this is fuelled by yet another cognitive bias – overconfidence about the benefits of such control)

It is interesting how prospect theory helps us understand so many things around the world. Its usage is limited but is catching up…

Railways nudge to sensitise people towards subsidy on train tickets

June 24, 2016

Interesting bit from Indian railways. It will now be printing the subsidy on the railway tickets:

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Applying behavioural economics to public policy (Is Indian polity listening?)

June 6, 2016

The post is on Canadian public policy but I guess it applies to most countries. There is an interesting video on nudging people to use stairs instead of elevators. Though the nudge is slightly noisy. Do see it.

There are numerous ways in which nudges can work:

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A parable about incentives backfiring…

June 3, 2016

Pick up a basic economics textbook and it most likely will start with incentives. All that seems to matter in economics is incentives. If you get the incentiving right, people are likely to respond in the desired way. Any behavior away from the norm defined by economists is blamed on incentives.

However, life is hardly that simple. People react differently even if incentives are supposedly right. This is where behavioral economics also comes in. This post by Samuel Bowles (HT: INET Blog) also points to a story with people responding negatively to certain actions:

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Should railways offer opt-in or opt-out for meals in privileged trains?

May 30, 2016

As a railways and beh econ buff it is exciting to read this bit. It is even more exciting to see something come into action which this blog argued nearly three years ago.

One always wonders the logic behind food being compulsory in India’s privileged trains like Rajdhani and Shatabdi. Most of the time food is bland and hopeless. If one takes a Rajdhani on a longer route rest be assured food is going to be the same across meals. As one has paid for it either one takes it or just wastes it. There are quite a few cases who carry their own food despite paying for it in tickets.

In 2013, this blog argued to change this default choice:

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How taxmen are tracking your Facebook pictures to ensure proper filing of taxes…

May 23, 2016

Never underestimate the government especially when it comes to collecting more and more taxes. One may be posting his/her pics on EB to draw several likes and neighbor’s envy but is now also drawing attention from tax authorities.

Next time you are hiding your taxes saying low business income etc for the year, pop will come a picture from your Facebook showing a foreign holiday recently. The question the tax person will ask is if incomes are indeed low how did this holiday come about?

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Endowment bias due to modern capitalism?

May 10, 2016

David Berreby has this fascinating post summarising this paper on what drives endowment bias.  What is endowment bias? There is a cup to be traded. AS a buyer you are willing to pay Re 1 for it but as a seller you want Rs 5 for the same cup. If one believes in markets, then price of the cup should be same whether you are a buyer or seller. This is called endowment bias where you value something more just because you owe it. This is one the classic anomalies pointed by behavioral economics.

The question is what drives this bias? In this experiment on hunter gatherers they start to show endowment bias as exposed to markets:

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Why Nudging Your Customers Can Backfire

April 20, 2016

This blog has been really quiet on behavioral economics/nudging for a while. It was once the favorite topic and quite a few posts were written on it. Perhaps, have not stumbled on something interesting in the space.

Prof Utpal Dholakia (Professor of Marketing at Rice University) has a post on how nudging could backfire.

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Why not include behavioal approaches in Indian policymaking?

January 25, 2016

One does not know why really.

Debhashish Basu of Moneylife says by nature people are lazy, selfish & vain. We should be aware of these traits while making policy.

famously said: “All writers are vain, selfish and lazy”. He could have said this for almost the entire human race. There are many altruistic people, and most of us sometimes do not fit this characterisation, but these are undoubtedly our default traits. Anybody who tries to persuade the public to behave in a certain manner must accept them or risk failure; or at the very least, be prepared for a long hard slog. The has understood this very well and created billion-dollar businesses that millions of people use daily for a cab ride (Uber), purchases (Amazon), information (Google) or other social purposes (Facebook, Twitter). Can intelligent policymakers and well-meaning politicians, who try to persuade millions to either clean up garbage, follow traffic rules, stop taking or giving bribes, learn from them? Lets first look at these characteristics.

As we tend to copy whatever west does in economic policies, there is an incentive to copy. British are already doing it:

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SEBI nudges towards an abridged IPO prospectus…

October 29, 2015

This should have come long ago. One keeps wondering why should an IPO prospectus be so so long? There is close to zero chance any investor (barring the biggies) reads the mammoth prospectus leave alone the retail investors.

As per recent SEBI notice, a company going for an IPO needs to issue a 10 page abridged prospectus as well. It has issued broad guidelines on what to be included in the abridged version:

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Flawed mental model and investing

August 31, 2015

Dhirendra Kumar of Value Research has a superb piece on this topic.

Starts with this story:

Here’s a joke that has a great pedigree in the investment world. The father of value investing, Benjamin Graham, apparently used to narrate this story to his students and draw a parallel to the behaviour of stock market punters.

So this oil prospector dies and goes to heaven. At the gate, St Peter reads the account of his life and tells him that he’s qualified for heaven, but there was a problem. “See that crowd over there? They’re all oil prospectors who’ve arrived before you. And the way things work here, you can’ get in until after them. So I’ afraid this looks like a long wait for you.” “Not a problem”, replies the man, “I know how to get rid of that crowd.” So he turns towards that crowd of oil prospectors and shouts out, “Hey, did you hear? Oil has been discovered in Hell.” And sure enough, as soon as they heard him, every single one of them ran off towards hell. Looking at this, St Peter reluctantly said, “Well, it seems your way is clear. You can enter heaven now.” But the oil prospector had his doubts. “You know what? I think I’ll follow the guys. The rumour could be true.”

As Graham used to point out, the oil prospector’s behaviour has much in common with what passes for investment research nowadays. As sophisticated commentators would point out, their mental model of how the market works probably leads them to believe that if a lot of people believe in something, then it must be true. A mental model of something is our idea of how it works internally.

He points to a few more mental models..

Stock market investments have captured human minds for a very long time. There is no other area which can make you both rich and pauper overnight. The former likelihood keeps bringing people to the investing world only to be trapped in some mental model or the other..

A unique nudge experiment from Hamburg to stop urination at public places

August 25, 2015

Gulzar points to this interesting nudge:

It has covered nine public walls with repellent paint which makes pee spray back on the person’s shoes and pant! Public urination on city walls by night revellers is a big problem in the city and has not been controlled despite a legislation banning it as well as fines of upto $500.

Using Anacondas, Crocodiles to nudge maintenance of Bangalore roads

August 11, 2015

Interesting article on how an NGO is using clever ideas to make its points on road maintenance in Bangalore:

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