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Our brains are hardwired to use logic in the service of our emotional desires and minimise our need for hard thinking. This was perfectly attuned to the needs of proto-humans who needed to advance and maintain their social standing within groups of up to 250 proto-humans, but is remarkably ill-suited to our needs when sound happiness-related decision-making requires so much logical thought. Our brains often lead us to using our money and time in ways that make us unhappy, not least because the marketing staffs of the world have been making Herculean efforts to understand and optimally exploit our flaws for profit. So here's a list of our most fundamental cognitive flaws:
- We think that we are smarter than the average person and don't make as many silly mistakes as they do - even though this complacency is part of why "the average person" makes so many mistakes in the first place.
- We feel that if we are smarter than average person, we must also be more rational than they are when in fact, greater intelligence just makes us better at rationalising - finding rational-sounding excuses for why we did irrational things. Failing to appreciate this makes us even more vulnerable to mistakes and cons than "the average person".
- We prefer forgetting or misremembering our mistakes to actually thinking about them and how to fix them or avoid them in future. After all, that would require admitting that we've made a mistake. And that would make us feel bad.
- We are poor predictors of how we will act when in a different emotional state. Calm people significantly underpedict their chances of doing sexually taboo or immoral things when aroused, and so on. This is part of why "abstinence-only education" has such poor sexual activity prevention outcomes.
- We feel more strongly about things affecting us right now than those in the past or the future, even when we felt or will feel more strongly about them at the time. This is why so many of us struggle with procrastination - the future payoff of not procrastinating may be tremendous, but in that moment the payoff of procrastinating feels like it is bigger.
- We feel that things we own are more valuable than things we don't - even if their objective value is identical. This can even apply to things that we only imagine ourselves owning, such as a vivid fantasy of us becoming rich - a key part of most sales pitches for Pyramid/Ponzi Schemes. This is one bias which drives us to the Sunk Cost Fallacy, along with...
- The more effort it takes to get something, the more we value it. This includes our relationships with other people, our points of view, our jobs, and even our appreciation/enjoyment of the thing which we have obtained - which increases relative to that effort. This is related to...
- We experience what we expect to, to the extent that we can convince ourselves that enjoyable sensations are unpleasant and vice versa. This is why producers invest in expensive packaging for edible products, among other things. It's also why expensive placebo medicines and treatments are more effective than cheap ones.
- We instinctively latch on to the first price we see (the "Anchor/Reference Price") and judge all subsequent prices for similar products with reference to that number. This is why certain products are arrayed at eye-height and take up more or less space on shelves in stores, why multi-buy sales specify a certain number of products, and why the first party to specify a price during negotiations usually gets the better deal.
- We instinctively like 'Free' things, even when there is an objective hidden cost to acquiring them. This marketing strategy works because we are not wired to think about the objective costs of actually acquiring that thing, and we are inclined to acquire FREE things even if we don't ordinarily want them. This is why "Buy one get one FREE" works so well.
- We tend to judge things in relation to similar things, regardless of how meaningful that comparison is. If we choose between three comparable products, one of which (A1) is good in attribute A and the other two of which (B1 and B2) are good in the different but equally attractive attribute B, most people choose the better product of the pair (B1). We instinctively feel that B1 must not just be better than B2, but that it is better than A1 as well.
- We are guided more by our social norms than our individual values or morality. This applies to all people and organisations. Egregious illegality and abuses of power are generally the products of promotional, or at least tolerant, organisational norms. This is not to say that, for instance, the executives of Enron were not scumbags - just that they were the mere tip of a foetid iceberg.
General Economic Fallacies
The following fallacies are only fallacies if:
- The economy is healthy.
- A thing is only 'worth' what its purchaser will pay for it. note
- The Broken Window Fallacy aka. Destruction Equals Employment aka. Digging and Filling Ditches: Named by Frederic Bastiat. Keynesians note that "demand-side" recessions caused by insufficient consumption (such as the Great Depression of '29 and Great Recession of '08) can be fixed by putting money in the hands of people who will spend it upon goods and services. While giving them this money for free or in payment for useless tasks (breaking and fixing windows, etc) might be necessary in a demand-side recession/depression, paying people for useless work once the economy was healthy again would be wasteful. This is because those people could be doing useful work instead. In economics terms we would say that the "opportunity cost" of wasteful work in a healthy economy is the useful work that cannot be done instead.
- Fallacy of Intrinsic Economic Value aka. Money for Nothing aka. Superiority Equals Success aka. Wealth Is Zero Sum: This fallacy consists of forgetting that the "value" of things is relative and determined by how much (if at all) people want it, rather than being absolute and independent of human desire. Examples include:
- Money for Nothing: Creating more money cannot create "more wealth". It does create inflation. note
- Wealth Is Zero Sum: This fallacy alleges that someone can only get wealthy by making someone else poor. X's gain must be Y's loss. It's a dog-eat-dog world and business consists of grabbing the largest share of the pie one can. The fallacy is the belief that the "pie" is a fixed size. If economic value is objective, then it is finite; it cannot be created. However, that premise is wrong; economic value is subjective. Thus, the pie size can be increased by increasing the supply of subjectively-valued goods. Technological progress is a large contributor to this.
- Superiority Equals Success: This fallacy alleges that a product's market price is determined by an objectively measurable aspect of the product. For instance, lets say you place a bucket of your phlegm on the market. And then you place two buckets of phlegm on the market. By the logic of Superiority Equals Success, you should get more money for two buckets of your phlegm than one. Thankfully, no one wants your phlegm and as such you wouldn't get any money for either bucket (clarification: you might get money for the buckets themselves; but the phlegm would have to be removed from the bucket). Objective superiority of any good along any measurable aspect (for instance, quantity) only translates into a higher market price if people want more of that measurable aspect (holding all other variables constant). And let's not even mention adding marketing into the mix...
- Exporting Good, Importing Bad: It's usually used something like this: Exporting something makes others dependent; this is good. Importing things makes you dependent; this is bad. Note that there was an early economic theory, mercantilism, which taught this exactly. And in fact it is still taught in many business and economics classes, or at least implied by referring to a situation where a country imports more than exports as a "trade deficit" and the inverse as a "surplus". In truth, some countries have a relative productive advantage in some areas, while other countries have different relative productive advantages. Trade allows countries to specialize in whatever production they have an advantage in, thus producing more in total, and then trade with each other. This makes both countries better off. For example, perhaps Country A can produce 4 cans of butter, or 2 cans of butter and 1 carton of eggs, or 2 cartons of eggs. Country B can produce 4 cartons of eggs, or 2 cartons of eggs and 1 can of butter, or 2 cans of butter. With trade, they can produce at their advantages of 4 cans of butter in A and 4 cartons of eggs in B and then trade so they each have 2 cartons and 2 cans. Making them both better off than if they produced everything in their own country.
- It's worth noting that in an Empire that has expanded sufficiently the Mercantile system makes more sense (although probably still isn't optimal) from the perspective of enhancing state power (because state power is relative to other states, and by engaging in mercantilism you are potentially harming other states more than yourself). However, in terms of delivering an economically optimal outcome (i.e. maximizing utility), the Mercantile system still Fails Economics Forever.
- In theory, Empires can benefit from mercantilism. In practice, of course, this was often not the case. The late 19th century European empires all spent far more maintaining their empires than they got back in revenue, and the colonies themselves represented a very small fraction of their overall GDP.
- Generally, mercantilism makes sense only when governments need money to fight foreign wars, to buy supplies from the locals.
- Some economists (e.g. Ha-Joon Chang) consider avoiding imports extremely important when the economy of a country is still developing. If country A currently produces 4 cans of butter and country B can't produce any butter at all, but could potentially produce at least 4 cans, country B should limit the importation of butter from country A to encourage the development of the local butter industry. In the modern world this applies most strongly to third world countries, which are dependent on imports in nearly all sectors of economy and have a very limited selection of exports. That is, real protectionism is about either having certain production at all or balancing import and export. So the export may be seen as a problem toonote
- Most of the arguments about promoting exports and avoiding imports for developing countries center around the idea that a country needs to industrialize to be truly prosperous, and the best way to do that is to promote local industries by limiting foreign competition. It seems to work with Export-Led Industrialization, but not so much with Import Substitution Industrialization, although obviously this is a major simplification of the internal economic processes of each country that tried these policies. In any case, it's no surprise that countries very much want to have a productive advantage in advanced technological industries and not, say... drugs, prostitution, and making sneakers for three cents an hour.
- It's also worth noting that importing and exporting will always balance in the long-run. If the US buys stuff from China, but doesn't sell anything, China will have a bunch of dollars that are worthless to them; unless China start buying stuff from the US, or loan the money back to them, or something else to that effect. If both countries use the same currency, this won't happen as quickly, but in this example, the currency would slowly get more valuable in the US and less in China, until the trade balances.
- Ridiculous Future Inflation: The main problem with this is that it is often portrayed as being a natural and normal result without any of the many social and economic problems hyperinflation show in the real world. It is, however, normal to see drastically inflated prices as a result of a past inflation.
- The resource halt: A source of conflict in many post-apocalyptic scenarios is the sudden exhaustion of a valuable natural resource such as oil and the conflicts that inevitably flow from it. Any microeconomics principles student will tell you that the real world does not work this way. If mankind is faced with such a threat, owners of the resource will withhold some of their stockpiles now in order to take advantage of the future scarcity. Furthermore this will mean that the price of the resource will rise slowly, giving humanity time to adapt. As a result, the point where we do run out will not be a trigger for a massive calamity, rather it will hardly be noticed.
- This would presume that the progress of science, and, indeed, the circumstances of the physical world itself, are determined by economic demand; events may very well occur to which humanity is simply unable to adapt. Furthermore, if the resource is sufficiently important - for example, water - the tactic of stockpiling may backfire by way of having your throat cut by a thirsty mob.
- A sudden, temporary decrease in availability, however, can be entirely plausible. This can occur (and has occurred) due to the obstruction of transportation routes, the destruction of the production apparatus, or monopoly/oligopoly producers artificially withholding supply in order to serve other motives. The effects of these scenarios are likely to be tied to relatively specific times and places rather than being The End of the World as We Know It (although it may feel that way to those affected).
- Also as the price rises former non-profitable actions have to be reconsidered - they might generate a profit now. Case in point - the Bakken formation in western North Dakota is currently undergoing a huge oil boom because of both technologic advances and rising oil prices making it very profitable to drill there now; not ten years ago North Dakota was losing population like much of the Great Plains. The same is true of most natural resources: they are extracted only when it's profitable to do so. If a gold mine gets an ounce of gold for $100 worth of effort, and gold is worth $110 an ounce, then it's profitable and the mine operates. If it takes $150 worth of effort, then the mine is "mothballed" and mining stops until the price of gold goes up, likely due to scarcity. This is actually one reason of many for why oil hasn't suddenly dried up: when it's gushing out of the ground, it's cheap, and the harder-to-reach sources are left alone. When it becomes more costly to extract everywhere and the price goes up, those harder-to-reach sources suddenly beckon when their costs become less than the potential profit.
- Finally, as a resource becomes less available to meet demand, the incentives to develop replacements rises. Furthermore, science reveals new methods to replace those resources over time, and demand for replacements can lead to the necessary R&D to make those replacements more efficient. Fossil fuels serve as an excellent example. Humans don't necessarily want oil and coal; we want warm houses, the power to move our vehicles, lubricants, plastics, and other products that are based on fossil fuels. As the costs - including pollution, environmental damage, and moral concerns - of these fuels rise, the incentive to meet those needs in other manners rises.
- America the bankrupt: National debts don't work like your personal debt. For example, people don't buy your debt to prop up your currency. Yet for some reason a lot of writers tend to think of the national debt in the same terms as a bank loan, with angry creditors and everything. When this trope is invoked expect to see a consortium of angry foreign dignitaries banging on a conference table that they want their money back. In reality, if countries actually acted like this, the global financial system would probably collapse pretty spectacularly and everyone would be screwed. This trope is not specific to America, but for some reason Americans are exceptionally paranoid about the National Debt, particularly when the Chinese are buying it up, and now not buying it anymore. Oddly enough, America's National Debt isn't even that bad by international standards. Also, the US national debt is in terms of dollars, and the government can create as many dollars as they need to pay off the debt. Everyone would be paid the amount owed, but the new dollars would lead to inflation.
- The key here is that governments usually owe substantial portions of their debt to 'themselves,' i.e. either the government owes money to different branches, or those branches hold their assets as bonds and treasury bills instead of money; by owing money to yourself, you usually don't charge yourself interest (beyond inflation) and you theoretically can't default on money you owe yourself. This is how Japan can have gross debt worth over 100% of their yearly economic output and have little economic effects: 70-80% of its debt is owned by the Japanese Central Bank. In the United States, around 35-40% of the government debt is owed to itself, mainly to the Social Security Administration. Also, debt owed to foreign entities makes up MUCH less of the debt than people seem to think: as an example, China owns only 6% of the total US debt.
- There have been cases in history where creditor nations have launched military actions of debtor nations in order to force repayment - the most well-known is the occupation of the Ruhr in 1923 by France and Belgium after Weimar Republic Germany had repeatedly defaulted on its (huge) debt obligations to the Allied Powers under the terms of the Treaty of Versailles (France believed Germany was testing Allied resolve to enforce the Treaty by skirting the payments). It ended poorly for the French, as they got cast as the bad guy internationally (despite the occupation being legal under Versailles) while Germany got sympathy once the passive resistance campaign against the occupation in the Ruhr started. Other cases include the Anglo-Egyptian War of 1882, the United States' occupation of Haiti in 1915, and the proposed joint Anglo-French-Spanish expedition to Mexico in 1861 (Britain and Spain backed out and made separate deals with Mexico when it became clear Napoleon III had more on his mind than just recovering the debt it was owed). In all these cases, forcing repayment of debt was a more secondary reason to exercising hard power (which may explain the acute American paranoia over this trope, however infeasible it would be in practice).
- Needless to say, there's one flaw in this potential concern: The fact that the United States is, by far, the most militarily powerful nation on Earth.
- Related is the idea that Governments Need Money. Modern governments create money. They take money away from people (taxation) to keep inflation manageable, and for redistribution. Governments don't need to even tax people, much less convince rich people to give them money, to get what they want.
- Third World Countries: Paradise of rich nations' investments: Ah... Third World Countries, with their cheap labor supply, lax regulations, and prime materials just waiting to get exploited. With such advantages, wouldn't the average Joe invest his life savings into opening a business in say... Somalia? As you probably answered... not so, normally, the reason labor is cheap in TWCs is because the workforce is also unskilled, lax regulations also usually mean a high crime rate or even political instability. That's why it's usually the big businesses that take the plunge to do the tremendous investments in TWCs, since they can absorb the cost of giving training to the workforce and providing security for their investments.
- Ideological Identity Idiocy: This is the intersection of Artistic License - Economics and Strawman Political. Often, a work that wants to make a political point will (probably accidentally, but possibly deliberately) make mistakes about the definitions of specific economic systems. In short, authors often don't know (or don't care) how economists actually define economic systems. Economic systems exist to allow a society to economize, i.e. allocate their supply of means towards various different ends. The supply of means is scarce because it cannot achieve all these ends. Thus, an economic system is something that provides a method by which these ends are prioritized and means are directed to fulfilling them.
- Socialism: In terms of Political Ideologies, Socialism refers to a broad family of ideologies united by an opposition to Liberalism and a goal of improving the lot of the working classes, refer to its page for details. However, self-proclaimed Socialists have advocated various different economic models, quite a few of which would fit under the category of "mixed economy" (for instance, market socialism and social democracy).
In economics, Socialism is often used to refer to State Socialism; a scarcity economy where all the means of production are property of the State (on behalf of the working classes) and all economic activity is controlled by the State. Thus, economists typically refer to nationalization of a specific industry as the "Socialization" of this industry. However, there are many variations on this theme, mainly varying in matters of degree (i.e. how much control the State exerts over economic activities):
- Public Enterprise Centrally Planned Economy in which all means of production (stuff used to make other stuff) is owned by the State and all key economic decisions are made centrally by the State, e.g. North Korea in The '70s (it's an interesting mix nowadays) or, partially, the former Soviet Union, where always existed at least some tacitly allowed private sector.
- Public Enterprise State-Managed Market Economy, one form of market socialism which attempts to use the price mechanism to increase economic efficiency, while all decisive productive assets remain in the ownership of the state, e.g. China, Venezuela (although Venezuela is moving towards the above), and arguably Fascist Italynote .
- Public Enterprise Employee Managed Market Economies, another form of market socialism in which publicly owned, employee-managed production units engage in free market exchange of goods and services with one another as well as with final consumers, e.g. mid twentieth century Yugoslavia. Some versions have a single monopoly production unit for each type of product or service, while others have open competition between employee-owned businesses. Two more theoretical models are Prabhat Ranjan Sarkar's Progressive Utilization Theory and Economic democracy.
- Public Enterprise Participatory Planning, an economy featuring social ownership of the means of production with allocation based on an integration of decentralized democratic planning, e.g. Catalonia during the Spanish revolution. More developed theoretical models include those of Karl Polanyi, Participatory Economics and the negotiated coordination model of Pat Devine, as well as in Cornelius Castoriadis's pamphlet "Workers' Councils and the Economics of a Self-Managed Society".
- Note: The "market socialist" models are arguably examples of mixed economies; some Socialists do not accept them as forms of Socialism.
- Mixed Economy, Social Democracy or Social Market Economy: An economic system where the scarcity economy is remedied by a mixture of both state and free market means. To qualify, both the State and the market must have a significant role in the economy (i.e. an advocate of free markets that gives a very small role to the State is not advocating a Mixed Economy, and a socialist that advocates a small role for markets is not advocating a Mixed Economy either). The vast majority of the world's economies, including those of Western Europe and the United States, fit in this category.
- Free Market Economics or Laissez-Faire: An economic system where the scarcity economy is remedied exclusively via a system of private property. All the inputs to the production process are owned by individuals or voluntarily-formed groups thereof whose property rights are derived from those of the underlying individuals that make up said group (for instance, businesses with more than one owner).
- Some advocates of Free Markets give a slightly larger but still strictly limited role to the State, and some advocates of Free Markets are Anarchists that believe the existence of the State cannot be justified.
- Many economists use "Capitalism" as a synonym for "Free Markets", but amongst many schools of political theory (including most forms of Anarchism and Marxism) "Capitalism" refers to something different. See the Capitalism page.
The supply of means is no longer scarce. This means that people don't need to economize. A society in this stage cannot be meaningfully described as any of the following labels since those labels only apply to societies with scarcity economies. Of course, many systems described in fiction as post-scarcity are not post-scarcity. Scarcity exists as long as any human (or Sufficiently Advanced Alien) cannot have all its wants met. If not everyone who wants the house on the hill, Jimi Hendrix's bandana, or the front row seats at a concert can have them, then there is in fact still scarcity. If The Singularity is capable of producing any commodity (say, gold), then those goods won't need to be economized. However, if the Singularity cannot let everyone enjoy goods like the front row seats at a concert, then there is still a need to economize them. This is not to say that its impossible to imagine. If we're talking about a post singularity society, it is possible that they will figure out a way to replicate all the essential qualities of even seemingly unique goods. The house on that one hill next to that waterfall could be replicated right down to the waterfall and the hill with sufficiently advanced terraforming technology. We could reshape the landmasses of a planet to maximize the beachfronts if that's what people want. Even that isn't enough to completely eliminate scarcity, since an item's history might be what makes it desirable and scarce. Sure, the Singularity can produce a perfect replica of anything, but there are more collectors that want an authentic original than can possibly have it. No matter how perfectly you could recreate a copy of one of the surviving First Folios of William Shakespeare, it's the originals that collectors would want. A minor version of this can be seen today when a desirable collectible can be reprinted or reproduced, and the replicas almost invariably sell for far less and are far less desirable. This gets even more important for sites that are holy to some faith or culturally significant to a people. Imagine using the Singularity to replicate the Dome of the Rock or the Great Pyramid or the Nazca lines and claiming the replica is interchangeable with the original. Travel to and visitation rights for such locations would still be scarce. Alternatively, a society which exists totally within a virtual universe could get around this, since the original would just be some form of data. There's also the issue that some things might be post-scarcity while others still need to be economized. For example, even if there was more than enough consumer goods for every person on Earth being provided by automated robots without human intervention you would still need an economy for things that cannot be reproduced that way, such as land (barring space stations or something similar) and unique items like antiques and historical treasures, but most people wouldn't care. This doesn't even require a singularity, the Earth's resources are such that it is virtually impossible for us to ever use it all. For example, enough energy falls on the Earth from the sun to power our projected energy needs in 2050 about 5000 times over, and that is without drastic measures like sending satellites into space to collect more energy. Collecting all that solar energy is difficult however. Similarly, there is an overabundance of water on the Earth, but most of it is salt water or trapped in the atmosphere and desalination is expensive while atmospheric condensers are still in their infancy, the farmland currently in use could feed 80 billion people if converted to emerging farming methods (and that's not even counting the possibility of farming more area) but that will take time and money, and enough raw materials exist in the Earth's crust to supply a virtually unlimited amount of consumer products including advanced technology and electronics, but harvesting it is hard. The majority of what we are economizing in the 21st century is actually labor, technology, and information, and advances in these areas could very well lead to major shifts in the world economy within a few years. Or not, the future is hard to predict. Also note that there are already resources that aren't scarce, such as air. As such, this would yield exactly the sort of economy we have.
Human Nature and Economics
An example of a Spanner in the Works, Neoclassical and Austrian economic theories can sound nice and wonderful on paper. However, when they are enacted in real life, the results can be wildly different. Their economists have a concept known as Homo economicus; a hypothetical being that is completely self-interested, rational, and has a desire to either maximum utility if they are consumers, or profit if they are producers. So a society of homo economicuses would only purchase items that provided the most utility and were the cheapest, and sellers would only sell at the highest price possible their consumers would pay. Any other reason why an human agent would act the way they do in an economic sense in a real society would not exist in a homo economicus society. On the other end of the scale, there is Homo reciprocans, a hypothetical being that is motivated not by self-interest, but by improving their environment. They are also motivated by justification, as some of their economic activities done can be used to "punish" another actor that they believe has done wrong, even at their own expense. Examples of this can be people refusing to shop at a store that they believe has mistreated workers, upheld an unpopular or controversial belief, or has done something else seen as wrong. In real life, many boycotts of businesses are due to owners going public with political beliefs, or doing practices certain members of the public find disagreeable can be an example of this. On the producer side, firms can refuse to do business with a customer they believe to have done or are doing something wrong. An example in real life is how certain companies refused to sell drugs to prisons that were using them to execute prisoners. However these concepts are used to describe behaviors and concepts in an economic system and do not necessarily describe how things will play out in reality. Human beings can be one side at times, the other side at other times, or some wild combination. Human beings may try to purchase or sell at the best price for them possible, but they may buy a product that is cheaper because it is cheaper, then have it cause trouble for them and cost more in the long run due to low quality, or perhaps a person might buy from from a producer because they are friends with the producer, and not because of product/service quality or price, or they prefer that brand due to false perceptions, or they simply don't have the time or resources available to research the best possible trade and are picking this one out of convenience, or they believe it is a better buy due to some other reason, be that reason be rational or not. A criticism of homo economicus is that real humans do not always know what is best for them in the long-run, and may perform an action due to its short term benefits, but run into problems when unforeseen (or willfully ignored) long-term costs rear their ugly heads. Also, homo economicus runs on the idea of actors having perfect information available, while real humans do not. As for homo reciprocans, in real life, a human may buy from a firm, or sell to someone someone that has "done wrong" in someone else's eyes, but they may either not see it as wrong, may not even know about the wrong doing, feel that the issue isn't something they could change, or they simply do not care about it. In someways, the boycott can backfire if there are enough people that will support a boycotted business due to beliefs that the boycotters are the ones that are wrong. Another wrench in the homo reciprocans idea is that a human being might be in a position in which the costs of helping the community would be too high for them to handle. A person might shop at a big box store because of cheaper prices that they can afford, even though a better choice for the community would be the mom and pop shop in the neighborhood. However, since they cannot afford the latter, they'll do business with the former. And then there's The Cynic's criticism of both models in their assumption that humans will be rational, but we'll leave that for the discussion boards.
Finally, and as always, there is the general zeroth rule of the Author Tract: Regardless of quality, writing a work of fiction neither adds nor subtracts empirical evidence to or from your point of view. It may display evidence, it may make an argument using that evidence, it may convince the reader using that evidence. However, merely writing a fictional work about a free-market/socialist utopia/dystopia does not prove anything. The only thing about which fiction can prove a point is fiction.