David Leonhardt has an excellent column on the squeezed middle class. He notes that while inequality is increasing, the other common complaint - that the income of middle class workers is now more volatile - is not supported by government statistics. There has been no great risk shift, at least when you look at income. As Leonhardt notes, accurately diagnosing the problem is a necessary part of coming up with a solution:
There is now a big push in both Washington and state capitals to come up with policies that can alleviate middle-class anxiety. That's all for the good. In fact, it is overdue. If it's going to succeed, however, it will have to focus on the actual causes of the squeeze.
I think some classic experiments from behavioral economics and neuroeconomics can help us better understand why the middle class feels so unsettled. I think the big issue is the perception of fairness. As I noted yesterday, the top 25 hedge fund managers last year earned $14 billion, which is enough to pay New York City's 80,000 public school teachers for nearly three years. Whether or not these managers are worth that amount of money is almost irrelevant. From the perspective of the middle class, such an unimaginable income just seems unfair.
Look, for example, at the ultimatum game, that simple economic task where one person (the proposer) is given ten dollars and told to share it with another person (the responder). The proposer can divide the money however they like, but if the responder rejects the offer then both players end up with nothing.
Classical economic theory makes two predictions about the outcome of the ultimatum game: the offers will always be unfair, and the unfair offers will always be accepted. Since both players are rational, they understand that a small amount of money is still better than no money at all. Reason and greed should trump ethical notions of fairness.
But that isn't what happens. Experiment after experiment has demonstrated that most proposers offer about $5, which is completely fair and utterly irrational. Their selfishness is systematically suppressed. Why do proposers engage in such generosity? Because they are able to imagine how the responder will feel if they make an unfair offer. Proposers know that a lowball proposal will make the responder angry, which will lead them to reject the offer, which will leave everybody with nothing. So the proposers suppress their greed, and equitably split the ten dollars. They understand that maintaining the appearance of fairness is better for everybody.
When fairness breaks down, bad things start to happen. All primates expect to be treated fairly, and if these expectations are violated, they respond by going on strike. One of the more powerful examples of this behavior comes from Franz Waals and Sarah Brosnan, who trained brown capuchin monkeys to give them pebbles in exchange for cucumbers. Almost overnight, a capuchin economy developed, with hungry monkeys harvesting small stones. But the marketplace was disrupted when the scientists got mischievous: instead of giving every monkey a cucumber in exchange for pebbles, they started giving some monkeys a tasty grape instead. (Monkeys prefer grapes to cucumbers.) After witnessing this injustice, the monkeys earning cucumbers went on strike. Some started throwing their cucumbers at the scientists; the vast majority just stopped collecting pebbles. The capuchin economy ground to a halt. The monkeys were willing to forfeit cheap food simply to register their anger at the arbitrary pay scale.
This labor unrest among monkeys illuminates our innate sense of fairness. It's not that the primates demanded equality - some capuchins collected many more pebbles than others, and that never created a problem - it's that they couldn't stand when the inequality was a result of injustice. Humans act the same way. When proposers do something to deserve their riches, nobody complains. But when they get rewarded for no reason and then refuse to fairly distribute their reward, people get furious. They begin doubting the integrity of the system, and become more sensitive to perceived inequalities. They reject the very premise of the game.
If I were a policymaker in Washington, I'd focus on preserving the perception of fairness. (And if I were a presidential candidate, I'd make that a key part of my platform.) The great increase in inequality suggests that our society is becoming more unfair. This is troubling. People have a deep need to believe that you get what you deserve, that there aren't different rules for the rich and the middle-class. That simple and instinctual belief is a foundation of our economic system.
The monkey's are exhibiting typical negotiating behavior. If you see that a buyer will pay a grape for a stone, of course you'll reject a lesser offer. No reference to any inherent sense of fairness is necessary to explain this (or strikes by labor unions) - this is pure self-interested negotiating. I bet if they started by offering all the monkey's grapes and then switched them all to cucumbers you'd see the same response, even though the monkeys were being treated equally.
Monkeys and their fairness or just only negotiating behavior??
Well, both can bee seen, the reaction occurs in context, and we, as well as monkeys are multi-level thinker: So both examples are correct. There is one truth about reactions and information and context.
Just consider the caser of a marriage swindler, he says how much he loves a woman, maybe he does a bit, but his goal is to get her money. Now take a man ho really loves that woman, he also says he loves her.
So you have two extremely similar behavioral expressions but they mean completely something different. They are differently motivated.
The same is with the monkeys: they would perform two extremely similar behavioral actions but the trigger for this action would be different. Once it is fairness and in the second situation it is the rejection of lower quality offer. But the displayed action is the same, or nearly the same.
Another example in humans, just consider a person entering a room a greeting everybody. And then comes the second person and also greets everybody. Where is the difference? Well, one person greets because this person loves people and likes to get into contact with them and respect them. The other person does not like people but was severely taught by mother to greet anytime when entering a room and if not greeting mother applied some kind of punishment. You have the same or nearly the same behavior displayed by the two persons but the motivation was different.
If you properly watch the behavior of people and animals you will find many other examples where the same behavior means slightly or severely different motivation, and thus also different explanation of such behavior.
The experiment with $10 and offering $5 to the other one is extremely narrow experiment, as there is no other contextual information, which is not usually true in real life. People live in groups and so they have always some other additional information, or they ask for some other additional information.
Imagine following example: you want to get something repaired in your home so you ask two or three experts to make you an offer, but this is not enough you go around and ask in your neighborhood how these experts accomplished their tasks. So solely the price is not enough,, you need the context of quality of work, you need references, you need more contextual information.
Back to our $-experiment and real life. If in real life I would be asked to divide ten bucks between me an the other, there were many other aspect also important. If the person is really a good on I can trust, and the person already has helped me many times, so I offer $6 for the person and only $4 for myself, and opposite, if the person has proved unreliable and there is a danger of being hurt by that person I would offer very little, maybe only two or nothing at all, as it would be better for me when the person rejects and I can get my money from somewhere else.
So life is not as simple as in this experiment with $ or with monkeys.
reply to borek:
Everything that you said made sense, and was well thought out. However, all of your proposals for different outcomes were thought experiments along the lines, of what if we proposed this, then that might happen. But the examples given in Jonah's original post were real-life experiments, with real and true quantifiable results. These results, of course, should be evaluated in the light of the limitation and restrictions of the experiments.
In Jonah's original post, he posted the results. However, his interpretation of the results could be wrong.
I think I would have to agree that this is negotiating behavior.
This is not to say that it is not ALSO about fairness. That is to say, our perception of fairness, and our emotional reaction to these rational decisions could be the mechanisms by which we negotiate.
If we perceive that we are being treated unfairly, then we instictively reject those offers and demand more. This effectively negotiates our position for us.
Even if this study is being interpreted correctly vis-a-vis the monkeys, it's wrong to extrapolate from the monkeys to unrest by low earners in our own economy. Income inequalities in our economy are not arbitrary, and their injustice is not a black and white matter. When janitors in my building complain about CEO salaries, I don't think any of them actually believes that it is a simple matter of chance that they aren't the CEO instead. Human psychology is too complex to be explained by experiments like this.