Integrity and Agreement: Economics When Principles Also Matter

Chapter 2. Preference-Integrity

Chapter 2 Preference-Integrity Some people do not like to lie. Some people really do not like to lie. Others may be indifferent toward acts of lying, or may even like to lie, especially if doing so can help them achieve other objectives. But to the extent that we model lying, we tend to focus more on the consequences of a lie on other preferences or constraints. For example, a lie may increase one’s consumption possibilities now but reduce them in the future if it hurts her reputation. In these kinds of analyses, one contractual party can trust another only because any violation of that trust will lead to unacceptable future losses. One is honest because that kind of behavior leads to the best material outcome for one’s self. In contrast, in this chapter I will introduce preference-integrity, which is really nothing other than a strong preference for not lying. But we will see that even this simple version can generate novel implications. First, a review of utility theory may be useful. 2.1. Utility Theory Economists developed utility theory to describe and model economic decision making.1 The starting point for utility theory is preferences. Each individual is assumed to possess preferences over all possible consumption bundles . These preferences enable comparisons, so any bundle can be judged relative to another. If ‹ve technical assumptions are ful‹lled—namely, that preferences are complete, re›exive, transitive, continuous, and strongly monotonic —then it can be shown that a utility function exists that represents those preferences. Utility functions assign values to any consumption possi12 1. Most economists and students with advanced microeconomics training can just skim this section . bility, with higher values representing preferred consumption opportunities relative to less preferred options. The ‹ve technical assumptions on preferences merit brief comment, particularly in relation to different notions of rationality used by economists. Completeness means that individuals can evaluate all alternatives. Re›exivity means that any bundle is judged to be at least as good as itself. Transitivity requires individuals to be consistent in their choices. If bundle A is preferred to bundle B, which is in turn preferred to bundle C, then transitivity requires the individual to prefer A to C. Some evidence suggests that this assumption is not robust because people may violate it according to how alternatives are framed. But, taken together, these ‹rst three assumptions on preferences connote the formal de‹nition of rationality for many economists.2 Other economists include strong monotonicity and the standard behavioral postulate of self-interest to de‹ne rationality. Strong monotonicity, or nonsatiation, simply means that more is preferred to less (a weaker version says that more is at least as good as less).3 Economists often con‹ne preferences to material goods, services, and leisure, so nonsatiation means that individuals judge themselves to be better off the more of these things they have. This assumption turns out to be important if we want to include the possibility of nonmaterial preferences (like honesty, for instance). By themselves, the axioms on preferences do not describe how an individual will choose among different alternatives. An individual could prefer A to B, but choose B according to some other consideration. Therefore, the behavioral theory is closed with the assumption of self-interest. This assumption means that individuals choose in order to satisfy their own preferences. Since economists assume that individuals choose in such a way to maximize their preference satisfaction, this expanded version of rationality says that individuals are rational if they maximize their own utility. This kind of rationality is called instrumental rationality. Why do economists feel most comfortable using material preferences, and “reasonable” ones at that? Nothing in the theory requires it; indeed, individuals could be assumed to have preferences over anything from altruism to revenge to eating sand. The reason economists eschew widespread inclusion is that otherwise any choice could be explained by a corresponding preference. Preference-Integrity • 13 2. See, for instance, Jehle and Reny 1998, 112. 3. Continuity is a technical assumption greatly aiding the mathematical analysis, permitting the use of calculus on utility functions, for instance. It says that if bundle A′ is strictly preferred to B, and if bundle A is suf‹ciently close to A, then A′ is preferred to B. Robert Frank calls this the “crankcase oil” problem.4 Someone who drinks crankcase oil and then keels over and dies must have really...