Transcript from an interview with Richard H. Thaler

Interview with Richard H. Thaler on 6 December 2017 during the Nobel Week in Stockholm, Sweden.

Did you ever think that you would get the call from Stockholm?

Richard H. Thaler: You are not really allowed to think about it, but one can always hope. A friend of mine told me that he had won a bet. In London I was going at 20 to 1 odds, so that suggests it could have happened.

What does this prize mean to you?

Richard H. Thaler: I think many Nobel Prize winners, especially in economics, were sort of stars the moment they arrived on the scene and might have been counting the days until this call came. That is not really the career I had. I was not a great student. My thesis advisor famously said that when interviewed about me, of my time in graduate school, that: “We did not expect much of him”. And you know the research that I won the prize for has been quite controversial from the beginning. I would say it’s becoming less controversial recently, so that is quite gratifying.

What are you most looking forward to during Nobel Week?

Richard H. Thaler: I am having a dinner the night before the big day with all my friends. It is a little bigger that it might have been because there are a few young economists who somehow got invited so our dinner will 23.

How does it feel to be called the ”father of behavioural economics”?

Richard H. Thaler: It is very gratifying. You know as most ideas there are, there’s more that one father. Adam Smith was a behavioural economist so he was there before me. As I argued in my recent book Misbehaving, economics was behavioural until about 1940. So Keynes would now be considered a behavioural economist. And then when economics started to become formalized and after World War two people like Paul Samuelson, and Ken Arrow, and Bob Solow … Not necessarily those people per se but the movement they started of writing down mathematical models. The easiest models to write down are ones of rational behaviour because you are just solving for the right answer. And then you are assuming that the people you are studying also get that answer. If you think about that, you realize that there is a bit of a flaw there, so you can have an economist work for three months to solve some very difficult problem and then just right assume that people maximize this formula that it took the world’s leading authority three months to solve. It might be that others would not solve it the same way.

How do you tackle resistance?

Richard H. Thaler: I always felt that the answers to these debates has to be data. You can’t win arguments and you also can’t really change anybody’s mind. So for people who had made their minds up – so be it. I concentrated on young people and the young people that found these ideas exciting are really what has made the field thrive the way it has the last couple of decades.

How did your interest in behavioural economics start?

Richard H. Thaler: My interest started before I knew anything about psychology. I just noticed when I was in graduate school that people would do things that seemed inconsistent with the theories that I was learning. There is a story I tell about a friend of mine and I were given tickets to a professional basketball game about an hour’s drive away in normal times and then there was a big snow storm and my friend said: “There is no way we are driving in this snow, but if we had paid for those tickets then we would be going”. This is what economists called the sunk cost fallacy. The idea is that, suppose we had paid full price for those tickets whatever that might have been at that time, let’s say we were out 50 bucks each, that money is gone, there is no way to get it back. It’s sunk and you can read in any economic principles book that you should ignore sunk costs and that you should and that people do. And what I was seeing in stories like that was, people don’t. And in fact we have to teach people when they take economics for the first time, no, that is a sunk cost, you should not pay attention to that. So I started a list of funny things people do and that’s all it was for two or three years.

Then I met two psychologists in 1975 I think this was, who introduced me to the work of Daniel Kahneman and Amos Tversky, psychologists who were then teaching at Hebrew University in Jerusalem. I had told that this psychologist’s name is Bob Fischhoff who had been a student of theirs and I told them about what I had been thinking about and he said: “You know you might be interested in the research that my thesis advisors have done”. And so when I got home I went to the library as one did in the 70s. There were actually books and journals, dusty ones. I had to go search for the psychology section of the library which was a whole new thing for me, and I started reading these papers and getting very excited and it is not that their research had anything to do with economics. Later they wrote a paper called Prospect theory that was aimed at economists but this early work in the early 70s had nothing to do with economics, but it had one idea, one central idea which was not only do people make mistakes, but that the mistakes they make are predictable. The reason why that was important was up until that time when I would bring these kinds of things up, economists would say: “Look, we know people make mistakes but those will wash out and we can handle mistakes”. But if the mistakes are all in the same direction or mostly in the same direction then it is a bigger problem for economics.

So I began to rethink some of the things on my blackboard. For example, one of the things I was interested in was the not very remarkable idea that people have self-control problems. To anyone but an economist this does not seem to be a deep observation. It is in the Bible, so it has been around for a long time. There is the story of Odysseus tying himself to the mast so we are up to ancient greeks. This is not a new idea. Thaler discovers self-control problems! Everybody knows that but there is an assumption in economics that comes with the fancy term consumer sovereignty. What consumer sovereignty means is that no one can know better than you what’s best for you. There are two parts to that. One is you are capable of making rational decisions and two, that you know your tastes. And then maybe there is the third one which is that you will then act on those preferences. We know say 20% of the population is obese, many people are smokers. If you ask them: “Would you rather not be a smoker?” they would say: “Yes I have tried to quit 20 times”, so people do have self-control problems and what is this matter for economics? One of the problems people have to face is saving for retirement and that is a problem that is a cognitively very difficult. Figuring out somebody your age trying to think how much they are going to make over their lifetime and then how long they are going to live and what kinds of rates of return they are going to get: that is hard! And then even if you could solve that, there is that very cute sports car that is begging you to buy it and you know it is not really consistent with this long run plan, but you are only young once, so these self-control problems are important to understand.

How long have you known your fellow laureate Daniel Kahneman?

Richard H. Thaler: After meeting my friend Fischhoff who told me about their work I heard they were going to – they being Kahneman and Tversky – were going to spend a year at Stanford 1977-78, so it is exactly 40 years. I decided I was going to somehow figure out a way to go spend a year at Stanford too. So I went sometime in the spring for a few days and went around to various people and begged and pleaded, and finally a guy called Victor Fuchs took pity on me and set me up with the fellowship so I ended up spending that year there in an office very nearby to where Danny Kahneman was sitting and got to know both of them. Then we all took new jobs at the end of that year. Amos did at Stanford, Danny went to University of British Columbia, I went to Cornell and that meant we were all on the same sabbatical schedule.

Seven years later I had a sabbatic coming up and I had had this great year visiting Amos and Danny and decided I would try to do the same thing. Danny was staying in Vancouver for his sabbatic. His wife Anne Treisman’s daughter was going to still be in high school so they were sticking around for her. So I decided: “Danny, would you like a visitor for a year?” and I went and spent another year with him and we wrote two very important papers in this field that year. It probably helps that I am an optimist because Danny is a pessimist. He claims to be a rational pessimist. So you know, in one of their theorises is that losses hurt more than gains, so he says if he expects the worst then he won’t experience any negative surprises. But being a pessimist is a really dumb idea. I have been trying to convince him of that unsuccessfully for forty years. But I think I served the job of cheering him up and telling him maybe things aren’t as bad as all that. This is getting to be more and more difficult in the times we are currently living in. But somehow miraculously we have stayed friends all these years. We have had a third year, we spent together seven years after that in New York City and now we still talk very frequently.

What is the greatest impact of your work?

Richard H. Thaler: At an abstract level I think the work has given economists permission to think about models that are not perfectly rational and to say this is a legitimate exercise. Creating that legitimacy required doing research in a wide variety of areas. I started studying financial markets and the reason is that economists were certain that you could not find any evidence of what I call misbehaviour in financial markets because the stakes are so high and you have all these professional traders. A friend of mine … you know the Frank Sinatra song New York, New York: “If you can make it there you can make it anywhere”, and he used to refer to my efforts in finances, the New York, New York theory, that if I could find anomalies in financial markets then that would carry the day. So 1985 I had a student who wanted to do research in finance and we wrote a paper together called Does the stock market overreact?. The answer is yes, and that paper caused a big stir in financial economics which encouraged me to write more of those papers and since then I have done research on anything from game shows to American football to laboratory experiments with people playing games and then a large part of my work has been in studying saving behaviour and how to help people save more.

Pensions, first of all pensions are new for human beings. For most of the millions of years we have been on earth saving for our retirement was not anything to worry about because you were going to die first and if you manage to live then you would move in with your kids. So pensions are kind of a 20th century invention. And the first ones were these so-called defined benefit pension schemes, that you worked at your company and then they would give you an annuity when you retired that was based just on what you made and how long you worked. No decisions to make. And then companies realized that those pensions were very expensive and started switching over to the so called defined contribution plans where companies and workers both contribute to a pot of money and then it is up to the worker how much to save, how to invest it, then how to draw it down and that is a really hard problem. I have worked with co-authors especially another of my students Shlomo Benartzi. We have worked on trying to make that problem easier for people. I have been working with companies and countries in devising retirement savings plans that are easy for humans.

One of the first innovations was something called automatic enrolment. It used to be in order to join the plan you would have to fill out a big pile of forms. People do not like filling out forms so many people would just fail to join even if their company or their government was giving a match. So we had the idea of making enrolment automatic, so changing the default, so when you first became eligible for a pensions plan you would get a pile of forms and instead of having to fill them all out the first page would say: “If you do not fill out all these forms we are going to enrol you at this saving rate and in this fund”. That’s become very popular and as you no doubt know was used in a recent pension reform in the UK. Essentially a national defined contribution retirement saving plan and it employed automatic enrolment and signups have been over 90%. So there was great scepticism. Lord Adair Turner was responsible for this reform and he decided to go with this idea and people did not think it would work but it worked. Then the second idea Benartzi and I had is what we call Save More Tomorrow. And the idea there is that we all have more self-control in the future. We are planning diets after New Year’s, so our idea was to give people the opportunity to commit themselves to increase their saving sometime in the future like. Like when they get the next raise and we linked it to raises because of loss aversion so they would not see their pay go down just it would go up a little less. And then there is a lot of inertia in these plans so once you joined this Save More Tomorrow plan it would keep ratcheting up until you hit your goal and it took us years to get somebody to try this, but finally found one company in Chicago to try it and we tripled saving rates in three years and then wrote a paper about it and now in the US among large companies the vast majority use automatic enrolment and automatic escalation, which is the generic term for Save More Tomorrow.

Can you describe the idea behind a ”nudge”?

Richard H. Thaler: The idea of a nudge is that you can point somebody in a helpful direction without forcing them to do anything. So that is the definition of a nudge. It is some feature of the environment that improves decisions but doesn’t force anybody to do anything. One of my favourite examples, one that has saved my life on numerous occasions, are those helpful signs “Look right” when you are crossing the street in London. You know, you drive on the wrong side of the road there. I wish you would do something about that. But given that you are not, it helps to warn people that those double decker buses come the wrong way. Oh yes, it is coming from over here! So that is a nudge! People get confused about this. They think that nudging is kind of a nanny state that the government is trying to get people to do what the government wants. You know the “Look right” sign, yes. the government would rather you did not kill yourself and it will cause a bit of a mess, but you do not want to get hit by that bus. And we are very clear that the goal of nudging has helped, helping people achieve their own goals. I’d like to think of GPS as a good analogy. I have the worst sense of direction of anybody. If I am not with my wife I am certain to get lost. But now I have Google maps on my phone and even wandering around the West End of London I do not get lost too much. The thing about a GPS system is you pick the destination. I want to go to the British Museum, I plug that in and it says “Turn right” and furthermore the instructions are not mandatory. If I see something interesting over to the left I can go to the left. The Apple recompute that, that’s our goal. To be the GPS for life and we do not want to tell people where they should go.

You have joked that you’ll spend the prize money as ”irrationally as possible”.

Richard H. Thaler: I should say that I made this comment at 4.45 am. Well, I do not have the money yet so I have not lived up to that promise. I do intend to throw a good party Saturday night and then try to spend it to make as many people happy as possible.

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