Fixed Point

The Economist blog weighs in with this:

behavioural economics can point to many interesting irregularities in behaviour, but it cannot dictate political beliefs such as the level of government intrusion into the economy. If we put the government in charge of deciding what we should want, who will be in charge of manipulating government preferences?

It’s a common misuinderstanding of behavioural economics, and libertarian paternalism in particular, that it advocates Government intervention as a standard. I think this is wrong. The optimal scenario would be on in which private firms compete amongst each other to offer, for example, a range of default savings plans (as in the Swedish plan), rather than have a no contribution default.

However, the research often shows that private sector firms are often slow to engage in the market, i.e. $20 bills remain on the ground. Where this is the case, and where Government has chosen or is mandated to provide, for example, social security or Medicare then shouldn’t we want the Government to act in what they judge to be our self interest?

Let me be clear here. I would prefer the Government NOT to be in the business of saving at all, but given that the incentives for private firms to provide ‘sensible’ options in line with actual behaviour appear lacking (unless specifically designed as in Sweden) then I think it only makes sense to ensure the Government does the best it can.

I’m not advoating a general policy of Government intervention in our choices. But if market failure does occur in instances where without some assistance we clearly act sub-optimally, then I would rather urge that sole provider (whoever it happens to be) to do the best they can.

The BBC reports of moves towards ending free banking in the UK, and charging customers for current accounts. Graham Beale, the incoming CEO of Nationwide says,

In a way, I do believe fee-based banking is a fairer proposition

We might grumble about being charged a fee to have an account, but there appears no logical reason to have ‘free’ accounts, so it must be fair, right?

Well, in our current world of no fees, banks’ costs have to be met from somewhere, usually penalty charges, cheque processing, correspondence etc. These charges tend to be well hidden to most customers. These myopic customers either do not foresee the hidden (high) charges, or see them and anticipate that tehy won’t need incur them, but of course they do.

Sophisticated customers do not make this mistake. They are attracted by the free banking but do not incur the hidden charges because of greater self-control, or perhaps for some services, they find adequate substitutes.

In a free-market, you might think there’s an opportunity for a firm to step up and announce that it will offer a ‘fair’ account charge and no, or much lower ‘hidden’ charges. But as gabaix-laibson.pdf point out in, this might not be the case. Sophisticated firms cream it off the myopic customers on the hidden charges, running the main account as a loss-leader. Sophisticated customers thus ‘exploit’ these myopics because they enjoy free/low cost banking and do not incur the hidden charges; sophisticates therefore, would rather not have a ‘fairer’ (=higher) bank account charge, even if it means lower hidden charges. The final piece in the puzzle is that no firm has an incentive to educate myopics, because they only turn into sophisticates who, by definition, gravitate towards firms offering loss-leader bank accounts with (higher) hidden but avoidable extra charges.

Whether you think this move is right or not depends, I guess on whether you think you’re sophisticated or not. A libertarian paternalist argument might be that most of us will be myopic and firms will earn monopoly profits and not seek to educate us, therefore either the penalty charges should be ‘fair’ (i.e. marginal cost pricing). This seems to be the line pursued by the OFT.