ROBERT SHILLER: Neuroeconomics Will Reshape The Finance System

Economist Robert Shiller has argued in favor of the "genuine beauty" in finance.

He believes that financial instruments can contribute to a better society because humans have an innate tendency towards generosity.

In an interview published by Credit Suisse he says that that finance recognizes "the egotistical side of human nature. This presents potential for conflict."

But these are things that he argues neuroeconomics will help shape in coming decade. Here is an excerpt from the interview:

You want to use financial instruments to contribute to a "good society," a better world. That sounds, diplomatically speaking, rather bold.

Not at all. During the last two years, many innovations in the sector have served to support the "good society." Social impact bonds in the UK, for example. Let's take the Peterborough Prison in northern London, which has extremely high rate of recidivism. The non-profit organization Social Finance reached an agreement with the government for a payment of six million British pounds if recidivism declines to a clearly defined level within a certain period of time. Social Finance then issued a bond. Using the capital raised, measures were taken with the goal of reducing recidivism. If the goal is met, the six million will be distributed to investors. That is a private solution to a public problem. There are numerous other examples.

Traditional theories of economics assume a rational, utility-maximizing person. One who is not necessarily interested in "good society.

Decades ago, the economist Kenneth E. Boulding showed how far removed we are from homo oeconomicus. People are much more dependent upon each other than the pure utility function would indicate. Generosity also seems to be an inborn trait, as Ernst Fehr at the University of Zurich has shown. People are generous and kind to people who they perceive as such. We want a society that reflects the golden rule: "Do unto others as you would have them do unto you." Of course, people aren't always good, but when generosity is fostered, they become better. Financial instruments can help with this, too.

Your wife is a psychotherapist. How do your ideologies differ?

She always thinks I need therapy (laughs). Seriously, my original understanding of economics has significantly changed and now includes more psychological components. We have been married for 36 years, we spend a great deal of time together, and we tend to read the same books. Right now, we are very interested in neuroscience, in particular in the subdiscipline of neuroeconomics. These approaches will shape our ideas in the coming decades.

...For example?

Ernst Fehr*, whom I just mentioned, scanned the brains of people playing an aggressive game. He found areas of the brain that are active during the feeling of schadenfreude. Many things are preprogrammed in our brains; we function much more automatically than we would like to think.

Back in 2011, Robert Shiller wrote of a coming Neuroeconomic Revolution. Neuroeconomists, he said, tried to develop economic theory by linking them to specific structures in the brain.

It appears he's increasingly convinced that this will be a very important area of study.

*Ernst Fehr is Professor of Microeconomics and Experimental Economics at the University of Zürich. He is known for his contribution to neuroeconomics and behavioral finance.

Click here to read the entire interview >

View the original article here