Modelling Cognitively Bounded Rationality: An Evaluative Taxonomy

Abstract

Since its origins in the 1950s, the notion of bounded rationality has been incorporated into economic theory using an array of methodological approaches. This paper presents a taxonomy by which these approaches can be categorized and understood, evaluating each approach against a range of important criteria. At a time when the foundations of economic theory are being re-examined, this paper should be viewed as a first step towards an assessment of the appropriate role that this more realistic view of cognition should take in different areas of economic theory, and also of the desirable characteristics of models that incorporate it.

Behavioral Economics: Where Is It Heading?

“…BE is somewhat of a departure from this classical view of economic behavior because it sets out to uncover explanations for the deviations from axioms typically relied upon in economics by reference to what is going on in the internal mind of the agent making the choices, rather than what is determined and characterised by the immediate choice environment they are in (Heap, 2013;Katona, 1968;Mullainathan & Thaler, 2001;Santos, 2011). More generally, it appears that economics has been transforming in a number of directions over the last 30 years and that these different mutations challenge the classical view of economics just described (BE, Econophysics, Evolutionary economics, Neuroeconomics, Physico-economics) (Davis, 2008;Mallard, 2012). The varying strands to economics include: Econophysics-involves the application of theoretical and methodological advancements from physics to economics.…”

“…The discussion concerning the issue of whether classical economics should still be preserved is best reserved for economists themselves, and there is plenty of work examining the current challenges it faces theoretically (Mallard, 2012), and even whether a rethink is needed of the curriculum that undergraduates of economics are currently taught in universities (Cooper & Ramey, 2014). However, the focus of this piece concerns BE rather than economics and the question of interest for this piece is: What is the future of BE?…”

“…The connections between psychology and economics have a long history which has been discussed by many (Backhouse & Fontaine, 2010;Camerer & Loewenstein, 2004;Canterbery, 2011;Colander, 2005;Davis, 2008;Earl, 2005;Friesen & Gangadharan, 2013;Heap, 2013;Heukelom, 2011;Kamenica, 2012;Katona, 1968;Lanteri & Carabelli, 2011;Mallard, 2012;Milonakis & Fine, 2013;Mullainathan & Thaler, 2001;Santos, 2011;Sent, 2004;Simon, 1965). In fact the earliest recognition of the value of psychology in economics, in its behaviorist guise, came from Knight (1925) (Lanteri & Carabelli, 2011).…”

“…These extreme situations signal a breakdown of the rational actor model because agent's behavior in the real world appears to be anything but rational. In recent history, in recognition of this, the Prize in Economic Sciences in Memory of Alfred Nobel has been awarded to researchers such as Daniel Kahneman, George Akerloff, and Vernon Smith (Earl, 2005;Innocenti, 2010;Mallard, 2012;Santos, 2011). These academics have helped re-orientate models of rationality to taken into account what might be characterised as more human features (e.g., biases, cooperation, fairness, heuristics, reciprocity, social identity, social norms) which are used to explain the seeming irrationalities of real world economic behavior.…”

Book Review

“…The activity of these departments is also usually concentrated on the right-hand side of the brain, meaning the focus of recognition is on the left-hand side of the face. For example, when presented with a face composed of half a female face and half a male face people usually assign to it the sex of whichever half forms its left-hand side.There exist two general explanations of bounded rationality -of non-optimal decision making -in the literature (see Mallard, 2011). According to the standard view, bounded rationality arises because of a disparity between the complexity of decisions and the limited cognitive capacity humans possess (see Simon, 1957;Simon, 1997); whilst according to the more recent view it arises because the nature of decisions has changed substantially from that for which the brain has evolved, creating a disparity between what the brain has evolved to do and what is now required of it (Basov, 2005;Basov, 2006).…”