As stock markets collapse across the globe, the US House of Representatives were already deeply mired in a game of finger pointing to lay blame for the failure of the $700 billion bailout bill on one party.  But the truth of the matter is that several factors are to blame for the bill’s defeat.

A sweeping rescue plan for US financial markets foundered in the US House Monday on a combination of doubts about the plan, reelection concerns, disdain for bailing out Wall Street bankers, and a deep philosophical distaste for massive government intervention in the private sector among conservatives.

The freezing of the credit markets could not have come at a worse time, when many of the lawmakers are up for reelection, giving their constituents unusually large influence on how they would vote. Many were inundated by e-mails, calls and faxes from the voting public all voicing opposition to the bill. And in a tight election who could blame lawmakers for adopting the populist position.

“We could lose seats over this,” said Rep. Carolyn Maloney (D) of New York, who nonetheless voted for the plan.

Many Wall Street insiders are shocked that Main street would hold such a self destructive position.  After all, we are told that without the bailout it is the ordinary citizen, the mortgage owner, the pensioner, and the blue collar worker who will suffer the most. Who in their right minds would wish upon themselves a worldwide recession, unemployment, negative-equity, bankruptcy, foreclosure, and a retirement in poverty? It may be irrational but it certainly should not be surprising. The late Stuart Sutherland cited the following example in his book, Irrationality:

The rivalry between groups may be so irrational that each may try to do the other down even at its own expense. In an aircraft factory in Britain the toolroom shop stewards tried to preserve this difference, even when by doing so they would receive a smaller wage themselves. They preferred a settlement that gave them £67.30 a a week and the production workers a pound less, to one that gave them an extra two pounds (£69.30) but gave the production workers more (£70.30)

This anecdotal evidence of group rivalry distorting value-based decisions has been subsequently confirmed and independently studied in surveys and controlled experiments. Often it arises from an innate sense of social relativism as noted by Michael Shermer in his article, “Why People Believe Weird Things About Money

Would you rather earn $50,000 a year while other people make $25,000, or would you rather earn $100,000 a year while other people get $250,000? Assume for the moment that prices of goods and services will stay the same.

Surprisingly — stunningly, in fact — research shows that the majority of people select the first option; they would rather make twice as much as others even if that meant earning half as much as they could otherwise have. How irrational is that?

This result is one among thousands of experiments in behavioral economics, neuroeconomics and evolutionary economics conclusively demonstrating that we are every bit as irrational when it comes to money as we are in most other aspects of our lives. In this case, relative social ranking trumps absolute financial status.

To further investigate the motivations behind behaviour that flies in the face of what classical economic theory would predict, economics researchers proposed what is now known as The Ultimatum Game:

a man approaches with a proposition. He offers you $20 in one-dollar bills and says you can keep the money, under one condition: You have to share some of it with your friend. You can offer your friend as much or as little as you like, but if your friend rejects your offer, neither of you get to keep any of the money. What do you do?

The ultimatum game is the brainchild of Israeli game theorist Ariel Rubinstein, who predicted in 1982 that a person asked to decide in such a game would choose to offer the least amount possible. This notion describes a behavior called rational maximization — the tendency to choose more for oneself.

The following year, Rubinstein’s prediction was tested by three economists — Werner Güth, Rolf Schmittberger and Bernd Schwarze. The three researchers found results from their test of the ultimatum game that directly contradicted Rubinstein’s prediction — the average offer from one participant to the other was around 37 percent of the money. Further studies found an average offer between 40 and 50 percent. Even more, approximately half of the receivers turned down offers under 30 percent.

What these experiments revealed is that people’s individual measure of fairness plays a big role in whether one favours or rejects what is offered to them. Humans are prepared to pay to deliver punishment against those judged not to be playing fairly. Such a strategy has been observed in many similar experiments, especially those set up as a non-zero sum game such as the Prisoners’ Dilemma. In iterated forms of the game, a punishment regime often emerged as a consequence –  When Wall Street enriches themselves through massively unsustainable leveraging then begs for a bailout when things go wrong, it is like opting to defect. Main street defects when they refuse to play along in order to punish the investment banks. The flipside of this strategy is that punishment of unfairness may have been a necessary component toward the eventual evolution of reciprocal altruism. Perhaps the rejection of unfair bailout deals by the ordinary citizen is not so irrational after all.

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