Free to Err?: Behavioral Law and Economics and its Implications for Liberty


Behavioral economics is one of the most significant developments in economics over the past 30 years.  The field combines economics and psychology to produce a body of evidence that individual choice behavior departs from that predicted by neoclassical economics in a number of decisionmaking situations.  These departures from rational-choice behavior are said to be the result of the individual’s “cognitive biases,” that is, systematic failures to act in one’s own interest because of defects in one’s decisionmaking process.  The documentation of these cognitive biases in laboratory experiments has been behavioral economics’ primary contribution to microeconomics.

Emerging close on the heels of behavioral economics over the past 30 years has been the “behavioral law and economics” movement, which explores the legal and policy implications of cognitive biases.  The legal academy has widely disseminated the body of experimental evidence documenting irrational behavior and is largely responsible for the behaviorists’ foothold in regulatory policy circles, in and out of the Obama administration and, more recently, the government of the United Kingdom as well.

Despite its remarkably broad scope, covering nearly every area of law and human behavior, the behavioral law and economics regulatory agenda reflects a common philosophical source—so-called “libertarian paternalism.”  That seemingly oxymoronic phrase, coined by proponents Richard Thaler and Cass Sunstein, is intended to describe legal interventions that both: (1) increase the individual’s economic welfare by freeing him from the limitations of his cognitive biases; and (2) change the individual’s behavior without limiting his choices.[1]  In other words, the promise of behavioral law and economics is to regulate so as to improve economic welfare by more closely aligning each individual’s actual choices with his “true” or unbiased preferences without reducing his liberty, at least as it is represented by the choices available to him.

We agree with Thaler and Sunstein’s implicit premise that the behavioral law and economics enterprise is properly evaluated by how successfully it solves this constrained optimization problem of maximizing welfare while respecting liberty.  The behaviorists’ economic welfare claims have been questioned by economists and some law professors on a variety of disparate theoretical, empirical, and institutional grounds, but the behaviorists’ claim that their proposed policy interventions do not entail a significant reduction in liberty and individual autonomy has been less scrutinized.  The full implications of the behaviorist regulatory agenda for liberty are the focus of our analysis.

I.          From Bounded Rationality to Predictably Irrational:  A Brief History of The Economics of Irrational Behavior

       A.                Irrationality and Economic Theory

The neoclassical economic edifice is built upon the foundational assumption that economic agents—individuals as well as firms—are rational maximizers.  That this assumption may be counterfactual is not a critique of price theory.  After all, the signature application of this assumption—the neoclassical model of perfect competition—was not itself designed for the purpose of describing the actual competitive activities of economic agents.  Indeed, as Harold Demsetz has pointed out, the neoclassical model has little to say about competitive activities at all and is better described as a model of “perfect decentralization.”[2] The purpose of the model was to demonstrate the relative efficiency of decentralized allocation of resources.

With the academic battle over the relative virtue of market versus governmental allocation of resources largely settled by the 1950s, economists such as George Stigler, Gary Becker, Armen Alchian and Milton Friedman devoted their efforts to extending the neoclassical framework to explain real-world phenomena observed in markets.

While the price-theoretic framework was expanding to address irrationality from one direction, Herbert Simon offered insights from another, planting the seed of what would become the modern behavioral economics literature.  Simon’s work began with the observation that humans do not possess the cognitive capacity to execute all the functions necessary to maximize their welfare; instead, human decisionmaking is better explained by “satisficing” behavior.  He explained the role of mental shortcuts or “heuristics” in economizing upon limited cognitive capacity.

In the 1970s, psychologists Daniel Kahneman and Amos Tversky built upon Simon’s insights to generate an alternative to the rational choice model, which they called “prospect theory.”[3] Their work provided the intellectual foundation for the modern literature on behavioral economics.  Based upon a series of laboratory experiments, Kahneman and his various co-authors identified departures from rationality and categorized these departures by attributing them to one of three sources of bias: “representativeness,” “availability,” and “adjustment or anchoring.”[4]

The modern research program of behavioral economics, which continues to use the approach introduced by Kahneman and Tversky, has proceeded largely along two lines.  The first line has expanded the set of documented cognitive biases, cataloging the systematic departures from rational choice observed in experimental and field settings.  The second line of research has tested whether these biases, initially documented in experiments within a controlled laboratory setting, are generalizable to markets.

In a series of academic articles, Sunstein and Thaler, individually and together, made significant contributions to what is now a vast literature documenting cognitive biases in a variety of laboratory settings and in some field experiments.  Sunstein and Thaler are best known for introducing the concept of “libertarian paternalism,” which they define as “an approach that preserves freedom of choice but that authorizes both private and public institutions to steer people in directions that will promote their welfare.”[5]  Sunstein and Thaler distinguish libertarian paternalism from classic paternalist philosophies on the grounds that the former seeks to develop legal rules that encourage individuals to maximize their welfare as those individuals subjectively define it.

       B.                 Behavioral Economics as a Theory of Errors

As has long been observed, the assumption of rationality in price theory is not meant to characterize the actual decisionmaking process of economic agents.  Rather, rationality is a simplifying assumption made to render modeling of economic interactions among firms and consumers tractable and to harness the powerful mathematical tools of optimization.  Therefore, if behavioral economics is to outperform price theory, its superiority must be proven by its greater predictive power, not merely by the assertion that its underlying assumptions are more “realistic.”  Behaviorists appear to embrace this challenge.

The first stage of the behavioral economics research program is best described as developing a comprehensive theory of errors.  The theory-building exercise thus far has focused largely upon the effort to catalog circumstances in which economic decision-makers appear systematically to depart from rational choice behavior.  The second step required to make the theory of errors policy-relevant is to map the conditions under which specific errors are more or less likely to affect decisions and then to generate estimates of the social costs imposed by those errors.  This step is particularly important when the incidence of a particular decisionmaking error is context specific, unevenly distributed throughout the population, and likely to interact systematically with other errors.  The third step is to compare the costs of any proposed corrective intervention against the social benefits produced by reducing the rate of error.  At present, however, research in behavioral economics does not appear to have moved much beyond the first step.

The minimum required to correct recurring and systematic errors is an accounting of their social costs and benefits.  The behavioral law and economics literature exhibits a strong tendency to ignore the social benefits of error. At the same time, it tends to overestimate the social costs of errors or at least implicitly to assume the social benefits from reducing identified errors will be greater than the social costs of interventions aimed at correcting those errors.  This tendency explains the current condition under which “virtually every scholar who has written on the application of psychological research on judgment and choice to law has concluded that cognitive psychology supports institutional constraint on individual choice.”[6]

II.                   From Behavioral Economics to Behavioral Law and Economics

The quest to translate the insights of behavioral economics, such as they are, into public policies intended to improve decisionmaking and welfare has achieved a remarkable degree of momentum.  In addition to Thaler and Sunstein’s recent book, Nudge: Improving Decisions About Health, Wealth, and Happiness[7] A popular summary of the behavioral approach to law, and Dan Ariely’s similarly oriented [8] there is abundant evidence that behavioral law and economics is affecting public policy.  Indeed, a recent account in the popular press describes behavioral economics as “the governing theory” of the Obama administration’s regulatory agenda, in part because Cass Sunstein now heads the Office of Information and Regulatory Affairs in the Executive Office of the President, which reviews proposed regulations before they can be issued.[9]

To give concrete examples, behavioral economics provided the intellectual blueprint for the Consumer Financial Protection Bureau, which the Congress created at the urging of the Obama Administration;[10] and a member of the Federal Trade Commission has discussed taking a more behavioral approach to enforcing the antitrust laws.[11]  Other examples include default opt-out enrollment in employer-sponsored savings plans and sin taxes to improve decisionmaking for individuals with time-inconsistent preferences.<[12]  Regulatory proposals informed by behavioral law and economics also span the law school curriculum, ranging from antitrust and consumer protection to discrimination and employment law.  The depth and breadth of the behaviorist agenda is in no small part due to its success in the legal academy.

       A.                Behavioral Law and Economics and Economic Welfare

Sunstein and Thaler are clear in stating the goals of the behavioral approach: to make individuals better off.  But what is meant by “better off” in a world where individuals’ revealed preferences cannot be relied upon for inferences about their own welfare?  Again, Sunstein and Thaler provide a clear answer:  The appropriate measure of welfare is economic well-being as it would be expressed by the preferences of each individual if he were free of behavioral biases.  Thus, the promise of behavioral law and economics lies in its potential to increase economic welfare according to each individual’s “true” preferences.

To date, critiques of behavioral law and economics and its promise of increasing welfare have raised three types of concerns:  The behaviorists (1) have no way to identify irrational decisions; (2) cannot reliably discern an individual’s “true preferences;” and (3) fail consistently to account adequately for the social costs of a proposed intervention.  Each of these concerns raises significant doubt both about the presumption that error-reduction alone increases welfare and about the potential for behavioral interventions to improve welfare.

          1.                  The Search for True Preferences

Behavioral law and economics’ claim to welfare-increasing intervention requires one to disregard the neoclassical assumption that actual behavior reveals evidence of welfare.  How then do behavioral economists identify true preferences?

In rejecting the standard understanding among economists that, by choosing x, an actor reveals he expects to be better off with x, the behaviorist conflates welfare and happiness.  This critical difference concerning conceptions of economic welfare leads to a methodological divide: When the neoclassical economist finds an economic agent’s actual behavior departs from the prediction of his economic model, he suspects the model is to blame; when a behavioral economist observes a gap between actual and predicted behavior, he concludes the agent is acting against his own best interests.

The neoclassical critique of the behaviorists’ view of the relationship between preferences and welfare is illuminated by examining the behaviorists’ model of the individual as multiple and distinct sequential selves with conflicting interests owing to different time perspectives.  But the multiple-self model fails both in theory and in practice.  Economics does not provide a basis for identifying which of the multiple selves’ decisions express the individual’s “true” preferences for the purposes of welfare analysis.  The convention in the behavioral literature, in order to make utility tradeoffs among the various selves possible, has been to adopt the long-run ex ante preference.[13]  Nothing, however, either in standard economic theory or in behavioral economics justifies this approach as identifying “true” preferences.

Untethered from the standard economic approach to welfare, the behaviorist’s approach becomes “both an opportunity and a rationale for activism,” and implicitly assigns to the economist the task of convincing individuals to improve their own decisionmaking or, alternatively, persuading a third party to intervene on behalf of the future selves.[14]  The behaviorists can only declare by fiat what they expect a rational individual would or should do¾thereby justifying the imposition of correct choices by a third party, contrary to the behaviorist promise to maximize economic welfare by the individuals’ own lights and undermining the behaviorist claim to the prefix “libertarian.”

             2.                  Errors of Omission in Behavioral Cost-Benefit Analysis

Another concern regarding behavioral law and economics is that it proceeds from premises that ignore the often significant costs of intervention.  We identify three types of omitted costs.                                  

                       a.                  The Default Rule
Sunstein and Thaler claim choice architecture, or selection of a default rule, is “inevitable.”  This may be so but it neither requires nor implies that the state¾or anyone else¾must always select the default rule.  It is even less apparent that the state will select a default rule more closely aligned with an individual’s true preferences (as defined by the central planner) than what the individual himself would choose to do.  We can reject Sunstein & Thaler’s inevitability hypothesis on the ground that a less intrusive measure is often sufficient to eliminate the framing effect without exposing individuals to the risks of policy errors.

Relatedly, behaviorist analyses of policy interventions often underestimate or ignore the cost of opting out of the default rule.  The claimed “libertarian” aspect of behavioral interventions is that the manipulation of choice frames still respects freedom of choice; the individual can always reject the regulator’s preferred choice in favor of expressing his own preference, even if irrational.  Many of the proposed behavioral interventions, however, simply do not live up to the claim of “choice-neutrality,” for they ultimately reduce or constrain available choices.  For example, sin taxes raise the cost of opting out, while product bans go further, eliminating entirely the ability to opt out; the number of choices practically available is reduced, respectively for some or for all individuals.

                       b.                 The Cost of Government Intervention

In addition to underestimating or ignoring the social cost associated with manipulating choice frames through legal default rules, behaviorists tend to underestimate the costs of implementing proposed policies—an error we term the “government intervention bias.”  If one believes individuals are predictably irrational and will commit decisionmaking errors, then the relevant policy question is whether society is better off if error-correction is supplied by individuals in markets or by individuals in the government.  It is unclear that either bounded rationality or outright irrationality supports a larger role for government in error correction, but more government is inevitably the policy prescription favored by the behaviorist agenda.  The pro-government position suffers from two underlying problems.

First, we question the behavioral economist’s implicit assumption that regulators are rational.  As Judge Posner pertinently inquired: “Behavioral economists are right to point to the limitations of human cognition[, b]ut if they have the same cognitive limitations as consumers, should they be designing systems of consumer protection?”[15]  In response to Judge Posner’s question, Thaler posits that regulators’ bounded rationality is defensible because even “imperfect experts can help us achieve better outcomes, just as imperfect judges can help us enforce the law fairly.”

Thaler’s response proceeds from the Nirvana fallacy and hence misses the critical point:  Neither governments nor individuals can make error-free choices.  The pertinent question concerns their comparative performance.  How costly will government policy errors be if government actors suffer from, say, hyperbolic discounting or status quo bias?  What will be the frequency and magnitude of those errors relative to relying upon private decision-makers to correct their own errors?  By casting the issue as whether people err—which no one could dispute—Thaler ignores the more subtle and fundamental points about the consequences of the choice to rely upon the government rather than private decisionmakers to correct errors.  The counterintuitive presumption that irrationality among regulators is irrelevant consistently biases cost-benefit analysis in favor of government intervention.

Second, the behaviorists’ government intervention bias depends upon their systematic underestimation of information costs.  Behaviorist prescriptions for intervention assume regulators are able to recognize, gather, and process the data required to identify each individual’s “true preferences.”  Their implicit assumption is that regulators enjoy a comparative advantage over private economic actors in acquiring information.  Mario Rizzo and Douglas Glen Whitman describe this obstacle to welfare-increasing behavioral interventions as the “knowledge problem” of behavioral law and economics, derived from Hayek’s well-known critique of central planning.

Either of these classes of objections, the default rule fallacy or the government intervention bias, is sufficient to undermine dramatically or to reject altogether the welfare-based case for behavioral law and economics.  Even if, however, we assume the behavioral economics research and policy programs can avoid all such problems and would be justified on pure economic welfare grounds, the behaviorist calculation of the net increase in societal welfare ignores the significant but underappreciated threat to individual liberty posed by government interventions predicated upon behavioral law and economics.

III.       Beyond Welfare: Behavioral Economics and Liberty

In the brave new world contemplated by the advocates of government policies informed by behavioral law and economics, many more aspects of each individual’s life would be regulated, or more stringently regulated, than at present.  This would be true even if the behaviorists’ agenda were limited to matters of health and finance, the two major subdivisions of Thaler’s and Sunstein’s book, each of which they define capaciously; the former, for example, includes smoking, nutrition, and medical insurance, while the latter includes credit cards, investing, and saving for retirement.

The behavioral law and economics regulatory agenda presents a substantial threat to individual liberty.  The current literature, however, assigns no weight to liberty beyond “choice preservation;” it is nearly devoid of thinking about the implications of behavioral law and economics for individual autonomy and about the social significance of autonomy’s further diminution.  How should one evaluate a regulatory intervention that would increase welfare but also diminish liberty?  What are the mechanics of trading off welfare and liberty when the two are in tension?  To be sure, a minor reduction in liberty should not be sufficient to reject an intervention with significant welfare benefits just as an intervention generating only modest welfare benefits is not justified regardless of its negative effect upon liberty.

In close cases it will be necessary to consider such trade-offs in order fully to assess the desirability of a proposed policy intervention.  Assigning a precise value to liberty in the regulatory calculus is an impossible task given that individuals value their liberties to different degrees and policy makers have no way of knowing those valuations or their distribution.  Even without assigning a precise weight to a loss of liberty, however, it is inevitable that such losses, if taken into account, will sometimes, perhaps often, defeat the case for intervention.  We believe the best approach to evaluating these potential tradeoffs is to establish a presumption against behaviorist regulation that reduces liberty, rebuttable only by demonstrating that the regulation is likely to generate significant gains in economic welfare.  It is to those liberty concerns that we now turn.

       A.        Autonomy

John Stuart Mill argued for the value of autonomy in its own right, that is, apart from what one does with one’s autonomy or the consequences of its exercise.  His point was that a fully realized human being is one who makes the important decisions in his own life:

If a person possesses any tolerable amount of common sense and experience, his own mode of laying out his existence is the best, not because it is the best in itself, but because it is his own mode. . . .  If it were only that people have diversities of taste, that is reason enough for not attempting to shape them all after one model.[16]

On the related topic of unthinking conformity to a tradition or custom, which he acknowledges may embody the teachings of experience, Mill’s observation is a cautionary note with equal application for those who would relieve the citizen of the need to decide things for himself:

 [T]o conform to custom, merely as custom, does not educate or develop in him any of the qualities which are the distinctive endowment of a human being.  The human faculties of perception, judgment, discriminative feeling, mental activity, and even moral preference, are exercised only in making a choice.[17]

And finally, in words that fortuitously seem to anticipate Thaler and Sunstein’s ideas on manipulating the default rule for enrolling employees in payroll savings plans,[18] Mill exhorts:

He who chooses his plan for himself employs all his faculties. He must use observation to see, reasoning and judgment to foresee, activity to gather materials for decision, discrimination to decide, and when he has decided, firmness and self-control to hold to his deliberate decision. [19]

More than a century later Friedrich Hayek, in The Constitution of Liberty, made a slightly different point about the value of having more rather than fewer choices:

[T]he importance of our being free to do a particular thing has nothing to do with the question of whether we or the majority are ever likely to make use of that possibility . . . .  The less likely the opportunity, the more serious will it be to miss it when it arises, for the experience it offers will be nearly unique.[20]

As Amartya Sen would later point out, this consideration relates to “the process aspect of freedom,” which includes considerations that may not figure in the accounting of the opportunity aspect of freedom.  In particular, Sen identifies

(i) decisional autonomy of the choices to be made, and (ii) immunity from interference by others.  The former is concerned with the operative role that a person has in the process of choice, and the crucial issue here is self-decision, e.g., whether the choices are being made by the person herself–not (on her behalf) by other individuals or institutions.[21]  

Behaviorists in general do not place any value upon the “the process aspect of freedom” or “decisional autonomy.”  Sunstein and Thaler in particular claim to preserve the choices now open to people by, for example, merely altering default rules without preventing the determined individual from opting out; however, that is not always the case and it is never without cost to the person whose preference is different from theirs.  Indeed, the proposals they advance are libertarian only in the limited sense that they “do not block choice” altogether.[22]  As Mozaffar Qizilbash observes, Sunstein and Thaler do not address the deeper anti-paternalist objection that their proposals deny the inherent value individuals place upon autonomy.  Autonomy—“deciding for oneself”—has value that “run[s] contrary to even the weak form of paternalism” favored by Sunstein and Thaler, rendering “the idea of ‘libertarian paternalism’ as they define it potentially incoherent.”[23]
Sometimes Sunstein and Thaler obscure their coercive instinct from view, as in the example with which they begin Nudge.  There they instance the “director of food services for a large city school system” who has “formal training in nutrition” and can have food presented in the schools’ cafeterias in any sequence.  Sunstein and Thaler mean to point out the inevitability of some choice being made and of that choice influencing the children’s preferences.  Their choice of setting, however, defeats this implication.  In their hypothetical illustration, the nutritionist ultimately influences children, who have less autonomy than do adults, which is why most of them are in school.  The “choice architect” works for a public school system, not a for-profit enterprise, the mission of which is to educate children, perhaps even on the subject of nutrition.  What the nutritionist’s choice, inevitable or not, has to do with the case for the government manipulating adults, who are sovereign in the marketplace, remains obscure.[24]

Limiting the range of decisions to be made by individuals or burdening those who would make an officially disfavored choice—not saving enough, eating unhealthful foods, etc.—tends to infantilize the public.  Effective decisionmaking is acquired through trial and error, that is, by making a decision and either getting verbal feedback about, or directly observing the success or failure of, one’s decision as a means of reaching one’s goal.  Moreover, “when people are motivated to be accurate, they expend more cognitive effort on issue-related reasoning, attend to relevant information more carefully, and process it more deeply, often using more complex rules.”[25]  The lesson, which is, ironically, ignored in the prescriptive behavioral law and economics literature, is clear:  The more palpable the consequences of one’s decisions, the more indelible the imprint of experience.[26]

It is precisely because individuals invest more effort when making more important decisions that paternalistic policies relieving them of responsibility for those decisions will have the most corrosive effect upon their decisionmaking ability.  Klick and Mitchell describe this cost of libertarian paternalism as a type of moral hazard, which in the long run would raise error rates because people would invest less in error-correction.  Nor is it reasonable to think the adverse effect will be felt with respect only to a narrow class of similar decisions; a muscle that has atrophied is rendered incapable of any strenuous activity, regardless of the particular purpose of that activity.

If individuals are to realize their full potential as participants in the political and economic life of society, then they must be free to err in large ways as well as small.  The fatal flaw of libertarian paternalism is to ignore the value of the freedom to err.  Interestingly, Hayek said as much in making the inherently anti-paternalistic case for The Constitution of Liberty: “Man learns by the disappointment of expectations.”  “Liberty not only means that the individual has both the opportunity and the burden of choice; it also means that he must bear the consequences of his actions and will receive praise or blame for them.  Liberty and responsibility are inseparable.”[27]  In a passage that, if heeded, would have saved the behaviorists a great deal of effort, he wrote:

The justification for assigning responsibility is thus the presumed effect of this practice on future action; it aims at teaching people what they ought to consider in comparable future situations . . . .  This does not mean that a man will always be assumed to be the best judge of his interests; it means merely that we can never be sure who knows them better than he.[28]

Buchanan also emphasizes the relationship between liberty and responsibility,[29] and in particular, individuals’ demand for institutions that insulate them from responsibility.  The role of economists is to remedy the “widespread failure to understand that the independence offered by the entry and exit options of the market offsets the dependence on others when markets are closed or displaced.”[30]  Hayek and Buchanan illustrate that the political and economic value of the freedom to err derives from the exercise of individuals’ liberty but requires sufficient independence from the state that individuals bear the costs of their choices.

Thinking about the implications of paternalism, both for individuals and for the society they compose, yields some testable hypotheses.  For one, we would expect people who were raised in a paternalistic state, and hence relieved of the need to make important decisions for themselves, to have weak decisionmaking skills and to be more risk-averse.  As it happens, there is a body of literature in cognitive psychology that tends to support that hypothesis; it proceeds from an understanding of the characteristics associated with entrepreneurship.

In general, “entrepreneurs . . . exhibit a particular mode of information processing, or cognitive style.”[32]  They are more alert to opportunities that require linking previously unrelated information.[xxxii]  Indeed, the experimental literature strongly tends to validate Kirzner’s description of the Austrian tradition, which “postulates a tendency for profit opportunities to be discovered and grasped by routine-resisting entrepreneurial market participants.”[33]

In a socialist state, however, resistance is futile.  Uncritical acceptance of the party line is essential to survival, much less advancement.  Of course, there are choices to be made:  Shall I read Pravda or Izvestia?  Yet the choice set has been limited by the state in a way that serves the state’s ends, not those of the individual.[34]  As Milan Simecka so graphically recounted from his personal experience after the “Prague Spring” of 1968, the Communist Party of Czeckoslovakia controlled the citizenry by depriving individuals of their decisional autonomy in only three respects:  The state determined their housing, their occupation, and their children’s education.  That is why this professor of mathematics in mid-career became an operator of construction equipment.  Perhaps it is not a coincidence that his book was published in 1984.[35]

The end of the Soviet era in Russia and the Eastern European states it dominated, and the very substantial movement in China toward a market economy provide useful comparisons.  The Soviet experience uniquely spanned the lives of three generations over a period of 74 years.  The experience of Eastern Europe with communism lasted about 45 years and in most places did not entail as comprehensive a form of state control over the economy;[36] unlike in Russia, therefore, at the end of the communist era there were many small business owners and people with pre-communist business experience to rekindle the entrepreneurial spirit.  China began to shift to a more privatized economy even in the late 1970s, after only 30 years of economic totalitarianism, again during the lifetime of pre-communist era business people.[37]

Transnational comparisons using data from the Global Entrepreneurship Monitor[38] produce “strong evidence” that, even after controlling for relevant variables, all countries with a communist past have a lower rate of entrepreneurship activity than other countries.[39]  A recent study concludes that even now those unfortunate countries have “low levels of entrepreneurial human capital that have been engendered by decades of existence under a central planning system that tended to blunt individual incentives.”[40]  As one would expect, however, the level of entrepreneurship is “significantly lower in Russia.”[41]  A study conducted jointly by Russian and U.S. scholars concludes that “[t]he absence of freedom of decisionmaking in the most important resource—the workforce—and the ‘no-choice’ employment situation were two fundamental obstacles to the development of entrepreneurship” during the communist era.[42]  After the fall of communism, moreover, Russian entrepreneurs tended to be younger than was typical elsewhere;[43] only the young were unscathed by their nation’s paternalistic history.

        B.        A Slippery Slope

Of course, no proponent of regulation based upon the findings of behavioral economics espouses a regime remotely as encompassing and restrictive as even the least oppressive of the late, unlamented communist regimes.  There is reason to believe, however, they would put us on a slippery slope—or push us that much further down the slope than we have already slid.[44]
Paternalistic policies are, by nature, likely to be slippery.[45]  Such policies are expressed in regulations specifically adopted, at least initially, for the benefit of those regulated and, if those individuals do not want to be regulated for their own good—which is hardly unusual—the regulators will likely deem ever more stringent measures necessary.   The federal laws protecting the occupants of automobiles provide a familiar historical example.[46]  Initially, regulators merely required manufacturers to install seatbelts in all automobiles.  As the Supreme Court has recounted:  “It became apparent, however, that most occupants simply would not buckle up their belts,” so the regulators turned to requiring various passive restraints, including airbags, automatic seat belts, and briefly even an “ignition interlock” device that prevented a car from starting if an occupant had not fastened his seatbelt.[47]  “But the interlock and buzzer devices were most unpopular with the public.”[48]  Then the regulators threatened the states with sanctions if they did not adopt laws requiring that seat belts be used.[49]

Each of these mandates imposed a cost upon the manufacturers and the purchasers of automobiles, but not upon the government officials who formulated them.  On the contrary, each successive measure tended to insulate the regulators from legislative and bureaucratic reprisals.  Risk regulators­ face asymmetrical incentives that inevitably put them on a slippery slope:  They stand to be criticized if their initial measures are insufficient to prevent all harms of the sort they are tasked (or have tasked themselves) with preventing; they will not be fully rewarded until they have fully accomplished their mission.

Also, regulatory missions tend to expand;[50] mission creep[51] assures that the government agency will require more money and more staff over time, forestalling any danger of the agency accomplishing its mission and becoming redundant.[52]  Just as the development of a vaccine for polio threatened to put the March of Dimes charity out of business[53] (and caused it to adopt a mission that could never be fully achieved, namely, “improv[ing] the health of babies” worldwide),[54] government agencies are always on the lookout for conduct that needs regulation.  Mission creep is a concern regardless whether an agency’s purpose is paternalistic, but with a mandate to regulate conduct for the benefit of the regulated individuals, there is no end to the good an agency may attempt to do at the expense of those individuals’ freedoms.[55]

The theoretical and empirical problems that make the case for behaviorally inspired regulation so weak also increase the probability that, once adopted, such a regulation will have an even more pronounced tendency to expand.  If the regulation is justified on the ground that there is a divergence between the expressed preference and the “true preference” of the regulated person(s), and assuming that, based upon experimental data worthy of reliance, the degree of that divergence can be estimated for each individual, the regulator will initially have to make his best guess as to the degree of debiasing pressure to exert.  Suppose, for example, my true preference is to save more tomorrow for retirement—specifically, $100 more per month—or to eat a less fattening diet—specifically, enough less to lose one pound per month for 25 months.  How much must the regulator burden my poor choices to spend rather than save and to abstain rather than indulge in order to goad me into making choices aligned with my true preferences?  The answer, alas, is blowing in the wind and hence out of reach.

If the burden the regulator imposes initially does not produce the expected result, then it will seem self-evidently insufficient; the obvious, self-serving, and hence nearly inevitable response will be to ratchet up the pressure as many times and as much as needed, not to re-examine whether there is really a gap between the expressed and the true preference, whether it is of the magnitude estimated, and whether there are other explanations for the initial or successive burdens’ failure to work as expected.  Perhaps my true preference for saving, as detected in the laboratory, changed when a member of my family developed a health problem that made a more immediate demand upon my income.  Perhaps I shifted my consumption of fattening foods, when they were taxed highly enough, to consumption of unhealthful quantities of foods that would not be fattening in the recommended serving size.  As long as the regulator can tax only the inputs, and not the output in the form of a tax based upon my weight, it can only continue to cumulate the burdens in the hope of getting lucky.  As the king might have said upon learning all his men and all his horses could not put Humpty Dumpty together again, this “simply proves to me that I must have more horses and more men.”

On the other hand, suppose the burden initially established by the regulator over-corrects the bias at which it is aimed.  I start saving too much for retirement—that is, more than my true preference, because I would rather forgo present gratification than have my money go to the government in taxes; and I consume insufficient calories because I do not substitute healthful foods for the sweets I consumed before the sin tax took the pleasure out of eating.  For all that appears to the regulator, the taxes it imposed upon unsaved income and fattening foods will have been a success.  It will have no incentive to learn whether the regulation overshot the mark and induced an unexpected adaptation; doing so could only cause it to confess its error and ratchet down the tax.  To admit to over-regulating is more embarrassing than to confess to having under-regulated, for the public is somewhat grudging about being regulated at all.

IV.       Conclusion

Even the least paternalistic version of behavioral law and economics makes two central claims about government regulation of seemingly irrational behavior:  that (1) the behavioral regulatory approach, by manipulating the way in which choices are framed for consumers, will increase welfare as measured by individuals’ own preferences; and (2) a central planner can and will implement the behavioral law and economics policy program in a manner that respects liberty and does not limit the choices available to individuals.  Our primary goal in this article has been to draw attention to the second and less scrutinized of the behaviorists’ claims, viz., that behavioral law and economics poses no significant threat to liberty and individual autonomy.  One need not await further evidence to conclude that this claim fails.  The behaviorists’ regulatory toolkit includes not only overt coercion, but also subtler forms of control, including interventions that would directly or indirectly either reduce the choices available to individuals or penalize individuals for pursuing their own preferences rather than following those of a regulator.  Despite having adopted a narrow conception of liberty as consisting only of “choice preservation,” the behaviorists’ libertarian claims fail on their own terms.  What Mill, Hayek, Friedman, and others taught about the “process aspect of freedom”—the liberty interest of a public that is not infantilized, has entrepreneurial spirit, and can learn effective decisionmaking through experience—has no place in the behaviorists’ regulatory calculus.  So long as behavioral law and economics continues to ignore the value to economic welfare and individual liberty of leaving individuals the freedom to choose and hence to err in making important decisions, “libertarian paternalism” will not only fail to fulfill its promise of increasing welfare while doing no harm to liberty; it will pose a significant risk of reducing both.

[1] Cass R. Sunstein & Richard H. Thaler, Libertarian Paternalism is Not an Oxymoron, 70 U. Chi. L. Rev. 1159 (2003).

[2] Harold Demsetz, The Intensity and Dimensionality of Competition, in The Economics of the Business Firm: Seven Critical Commentaries 137 (1995).

[3] Daniel Kahneman & Amos Tversky, Prospect Theory: An Analysis of Decision Under Risk, 47 Econometrica 263 (1979).

[4], Amos Tversky & Daniel Kahneman, Availability: A Heuristic for Judging Frequency and Probability, 5 Cognitive Psychol. 207, 208-09 (1973); Amos Tversky & Daniel Kahneman, Judgment Under Uncertainty: Heuristics and Biases, in Judgment Under Uncertainty 3 (Daniel Kahneman et. al. eds., 1982); Kahneman & Tversky, supra note 3, at 265-73; Daniel Kahneman et al., Experimental Tests of the Endowment Effect and the Coase Theorem, 98 J. Pol. Econ. 1325, 1329-36 (1990); Daniel Kahneman & Shane Frederick, Representativeness Revisited: Attribute Substitution in Intuitive Judgment, in Heuristics and Biases: The Psychology of Intuitive Judgment 49–81 (Thomas Gilovich et al. eds., 2002).

[v] Cass R. Sunstein & Richard H. Thaler, Libertarian Paternalism, 93 Am. Econ. Rev. 175, 179 (2003).  See also Richard H. Thaler & Cass R. Sunstein, Nudge: Improving Decisions about Health, Wealth, and Happiness (2008).

[6] Jeffrey J. Rachlinksi, The Uncertain Psychological Case for Paternalism, 97 Nw. U. L. Rev. 1165, 1166 (2003); see also Gregory Mitchell, Why Law and Economics’ Perfect Rationality Should Not Be Traded For Behavioral Economics’ Equal Incompetence, 91 Geo. L. Rev. 67 (2002).

[7] Thaler & Sunstein, supra note 5.

[8] Daniel Ariely, Predictably Irrational: The Hidden Forces that Shape Our Decisions (2008).

[9] Andrew Ferguson, Nudge, Nudge, Wink Wink: Behavioral Economics–The Governing Theory of Obama’s Nanny State, Weekly Standard, Apr. 29, 2010, at 18.  Time Magazine described the Obama administration’s advisers as a “behavioral dream team” that would rely upon behavioral economics to “transform the country.”  Michael Grunwald, How Obama is Using the Science of Change, Time, Apr. 2, 2009, ¶¶ 3-4, available at http://www.time.com/time/magazine/article/0,9171,1889153,00.html.

[10] See Oren Bar-Gill & Elizabeth Warren, Making Credit Safer, 157 U. Pa. L. Rev. 1, 39 (2008); Elizabeth Warren, Unsafe at Any Rate, 5 Democracy J. Ideas, (Summer 2007), available at http://www.democracyjournal.org/article.php?ID=6528; Michael S. Barr, Sendhil Mullainathan & Eldar Shafir, New Am. Found., Behaviorally Informed Financial Services Regulation: Preparing for the Asset Building Program 12 (2008).  Warren, a prominent behaviorist in her own right, was charged with setting up the CFPB.  Mullainathan, a leading behavioral economist, was recently appointed CFPB Assistant Director for Research.

[11]J. Thomas Rosch, Commissioner, Fed. Trade Comm’n, Behavioral Economics: Observations Regarding Issues That Lie Ahead, Remarks before the Vienna Competition Conference (June 9, 2010), available at http://ftc.gov/speeches/rosch/100609viennaremarks.pdf.

[12] See Jonathan Gruber & Botond Koszegi, Is Additional “Rational”? Theory and Evidence, 116 Q.J. Econ. 1261 (2001); Jonathan Gruber & Botond Koszegi, Tax Incidence When Individuals are Time Inconsistent: The Case of Cigarette Excise Taxes, 88 J. Pub. Econ. 1959, 1959 (2004); Jonathan Gruber & Sendhil Mullainathan, Do Cigarette Taxes Make Smokers Happier?, 5 B.E. J.: Advances in Econ. Analysis & Pol’y (Article 4, 2005).

[13] See, e.g., Ted O’Donoghue & Matthew Rabin, Studying Optimal Paternalism, Illustrated by a

Model of Sin Taxes, 93 Am. Econ. Rev. Papers and Proceedings 186 (2003); Gruber & Koszegi, supra note 12, at 1287.

[14] Faruk Gul & Wolfgang Pesendorfer, The Case for Mindless Economics 38 (Nov. 2005) (unpublished manuscript), available at http://economics.uchicago.edu/pdf/Pesendorfer040306.pdf.  Gul and Pesendorfer describe this stance as “therapeutic” and “paternalistic,” and “similar to the position of medical professionals who attempt to cure a patient’s addiction.”  Id.

[15] Richard A. Posner, Treating Financial Consumers as Consenting Adults, Wall St. J., July 22, 2009, available at http://online.wsj.com/article/SB10001424052970203946904574302213213148166.html.

[16] John Stuart Mill, On Liberty, in On Liberty and Other Essays 1, 132–33 (Penguin ed. 1985) (1859); see also James Griffin, Well-Being 67 (1986) (“One component of agency is deciding for oneself.  Even if I constantly made a mess of my life, even if you could do better if you took charge, I would not let you do it.  Autonomy has a value of its own.”).

[17] Mill, supra note 16, at 122.

[18] See Thaler & Sunstein, supra note 5, at 105–19.

[19] Mill, supra note 16, at 123.

[20] F.A. Hayek, The Constitution of Liberty 31 (1960).

[21] Amartya Sen, Markets and Freedoms: Achievements and Limitations of the Market Mechanism in Promoting Individual Freedoms, 45 Oxford Econ. Papers 519, 522, 524 (1993) (“The process aspect of freedom” is about more than “myopic selfishness.  It is whatever it is that interests the participants, whatever they value, whatever goals they pursue,” including their altruistic goals).  See also Milton Friedman & Rose D. Friedman, Free to Choose: A Personal Statement 27 (1980).

[22] Mozaffar Qizilbash, Well-Being, Preference Formation and the Danger of Paternalism 23 (Max Planck Inst. of Econ. Papers on Econ. & Evolution, Working Paper No. 0918, 2009), available at ftp://papers.econ.mpg.de/evo/discussionpapers/2009-18.pdf.

[23] Id.

[24] Sunstein clarified the connection in an earlier work, instancing “the cafeteria at some organization” and rather lamely suggesting that if the cafeteria’s goal is profit maximization, then “even those cafeterias that face competition will find that some of the time, market success will come not from tracking people’s preferences, but from providing goods and services that turn out, in practice, to promote their welfare, all things considered.  Consumers might be surprised by what they end up liking.”  Cass R. Sunstein, Laws of Fear 179 (2005).  Clearly Sunstein and Thaler have little to offer when they move from a coercive to a market environment, where consumers are sovereign.

[25] Ziva Kunda, The Case for Motivated Reasoning, 108 Psychol. Bull. 480, 481 (1990).

[26] Consistent with this inference, Vernon Smith and James Walker’s review of the experimental literature on the effect of incentives on decisionmaking finds that “[s]ome studies report observations that fail to support the predictions of rational models, but as reward level is increased the data shift toward these predictions.”  Vernon L. Smith & James M. Walker, Monetary Rewards and Decision Cost in Experimental Economics, 31 Econ. Inquiry 245, 246–50, 251–59 (1993).  Consequences need not be serious, however, for the effect of a choice to provide valuable feedback; studies show the repetition of feedback that accompanies making similar decisions may be useful to the decisionmaking process.  See Vernon L. Smith, Economics in the Laboratory, 8 J. Econ. Persp. 113, 118 (1994) (rational behavior tends to emerge “in the context of a repetitive market institution”); John A. List, Does Market Experience Eliminate Market Anomalies?, 118 Q.J. Econ. 41, 70 (2003) (there is “strong evidence that individual behavior converges to the neoclassical prediction as trading experience intensifies”).

[27] Hayek, supra note 20, at 71.

[28] Id. at 76.

[29] James M. Buchanan, Afraid To Be Free: Dependency as Desideratum, 124 Pub. Choice 19, 23 (2005) (observing that the academy has “failed to emphasize sufficiently, and to examine the implications of, the fact that liberty carries with it responsibility”).

[30] Id. at 27.

[31] Amir N. Licht, The Entrepreneurial Spirit and What the Law Can Do About It, 28 Comp. Lab. L. & Pol’y J. 817, 819 (2007).

[32] Id. at 824–25; Connie Marie Gaglio & Jerome A. Katz, The Psychological Basis of Opportunity Identification: Entrepreneurial Alertness, 16 Small Bus. Econ. 95, 96–98 (2001).

[33] Israel M. Kirzner, Entrepreneurial Discovery and the Competitive Market Process: An Austrian Approach, 35 J. Econ. Lit. 60, 71 (1997).

[34] See Katherine Verdery, What Was Socialism, and What Comes Next? 26 (1996) (explaining that the purpose of socialism was “to accumulate means of production” in order “to redirect resources to a goal greater than satisfying the population’s needs”).

[35] Milan Simecka, Restoration of Order: The Normalization of Czechoslovakia (1984).

[36]See, e.g., Tony Judt, Postwar: A History of Europe Since 1945 428 (2005) (Hungary under Janos Kadar implemented economic reforms in 1968 to promote a “mixed economy” with some local autonomy and private ownership); David Lipton & Jeffrey Sachs, Creating a Market Economy in Eastern Europe: The Case of Poland, 1990 Brookings Papers on Econ. Activity 75, 80–82 (1990) (farmers in Poland “retained their private land after World War II,” and a larger though still restricted “private sector ha[d] been allowed to operate under the reforms in Hungary and Poland” during communism).

[37] Louis Putterman, The Role of Ownership and Property Rights in China’s Economic Transition, in Andrew G. Walder, China’s Transitional Economy 86 (1996) (Between 1978 and the early 1990s, China’s economy shifted with “significant new participation by foreign and domestic private firms”); see also Hon. Richard D. Cudahy, From Socialism to Capitalism: A Winding Road, 11 Chi. J. Int’l L. 39 (2010) (noting “[t]he flexibility of the Chinese in economic matters seemed to far exceed the Soviets” and discussing China’s cautious shift toward privatization); Jonas Alsen, An Introduction to Chinese Property Law, 20 Md. J. Int’l L. & Trade 1, 20–21 (1996) (detailing shift to more private ownership beginning in 1978).

[38] Global Entrepreneurship Monitor, http://www.gemconsortium.org (last visited Sept. 7, 2010).

[39] See, e.g., Ruta Aidis et al., Institutions and Entrepreneurship Development in Russia: A Comparative Perspective, 23 J. Bus. Venturing 656, 657 (2008).

[40] Martin Robson, Explaining Cross-National Variations in Entrepreneurship: The Role of Social Protection and Political Culture, 28 Comp. Lab. L. & Pol’y J. 863, 890 (2007).

[41] Aidis et al., supra note 39, at 657, 670 (attributing difference in part to weak institutions to support entrepreneurial development).

[42] Alexander I. Ageev et al., Entrepreneurship in the Soviet Union and Post-Socialist Russia, 7 Small Bus. Econ. 365, 369 (1994).

[43] Id. at 371, 374 (finding entrepreneurs in Russia are younger than their counterparts in Poland and Hungary).

[44] See Douglas Glen Whitman & Mario J. Rizzo, Paternalistic Slopes, 2 NYU. J.L. & Liberty 411, 412 (2007) (“A slippery slope argument is one suggesting that a proposed policy or course of action that might appear desirable now, when taken in isolation, is in fact undesirable (or less desirable) because it increases the likelihood of undesirable policies being adopted in the future.”).

[45] See Mario Rizzo & Douglas Glen Whitman, Little Brother is Watching You: New Paternalism on Paternalist Slopes, 51 Ariz. L. Rev 685, 691-705 (2009) (“[S]lippery slopes flourish in the presence of a gradient or continuum,” and “[t]he new paternalist paradigm . . . relies on discarding sharp distinctions in favor of gradients”).

[46] For a brief history of federal seat belt laws, see Barry L. Huntington, Welcome to the Mount Rushmore State! Keep Your Arms and Legs Inside the Vehicle at All Times and Buckle Up, 47 S.D. L. Rev. 99, 101–04 (2002).

[47] See Geier v. American Honda Motor Co., Inc., 529 U.S. 861, 875–77 (2000) (discussing history of federal regulations requiring passive restraints).

[48] Id.

[49] Huntington, supra note 46, at 101.  States without mandatory seatbelt laws also receive reduced federal funding for highway maintenance.  Id. at 102.

[50] See Milton Friedman, Why Government is the Problem 9 (1993) (“The general rule is that government undertakes activity that seems desirable at the time.  Once the activity begins, whether it proves desirable or not, people in both the government and the private sector acquire a vested interest in it.  If the initial reason for undertaking the activity disappears, they have a strong incentive to find another justification for its continued existence.”); see also Rizzo & Whitman, supra note 45, at 717–23 (the adoption of a moderate paternalist policy makes the adoption of further policies more likely because the proponent can argue the now-accepted justification for the first policy also provides a foundation for the new policy).

[51] Gary W. Jenkins, Who’s Afraid of Philanthrocapitalism?, 61 Case W. Res. L. Rev. 753, 805 n.212 (2011) (“Mission creep refers to an organizational phenomenon in which entities inadvertently, over time, stray from their fundamental mission by engaging in activities or behaviors less closely related to the core . . . purpose.”).

[52] See Fred S. McChesney, Rent Extraction and Rent Creation in the Economic Theory of Regulation, 16 J. Legal Stud. 101, 117 (1987); Hernando de Soto, The Other Path 8-11 (1990); Simeon Djankov et al., The Regulation of Entry, 117 Q.J. Econ. 1, 3 (2002).

[53] David L. Sills, The Volunteers: Means and Ends in a National Organization 253–54 (1957); Howard P. Greenwald, Organizations: Management Without Control 369 (2008).

[54] http://www.marchofdimes.com/787.asp.

[55] See Olmstead v. United States, 277 U.S. 438, 479 (1928) (Brandeis, J., dissenting) (“Experience should teach us to be most on our guard to protect liberty when the government’s purposes are beneficial.  Men born to freedom are naturally alert to repel invasion of their liberty by evil-minded rulers.  The greater dangers to liberty lurk in insidious encroachment by men of zeal, well-meaning but without understanding.”).