Multiple Equilibria, Bounded Rationality, and the Indeterminacy of Economic Outcomes: Closing the System with Institutional Parameters

Abstract

A critical point made by behavioral economists from a wide set of methodological perspectives is that individuals typically do not make decisions that are consistent with conventional economic theoretical norms of rational behavior. This is true of those building on the errors and biases, or heuristics and biases, approach derived from the research of Kahneman and Tversky (Kahneman, 2003, 2011; Thaler and Sunstein, 2008), and those building upon the bounded rationality approach introduced by Herbert Simon (1978, 1979, 1987; Altman, 1999; Gigerenzer, 2007; Smith, 2003). Such ‘irrational’ behavior from the perspective of the mainstream is considered to be inefficient or sub-optimal. And sub-optimal outcomes should not be able to survive; that is to fail the test of the survival of the fittest. However, different socio-economic outcomes or solutions to the same specific decision problems appear to be consistent with survival in the market place. This is even true of economic outcomes, when firms are not maximizing productivity. Both low and high productivity firms can survive simultaneously in the market. Moreover, ethical or socially considerate firms, and other-giving and empathic individuals, can also survive and persist, even if such behavior is often considered to be sub-optimal and irrational from the perspective of conventional economic wisdom.