The Road not Taken: How Psychology was Removed from Economics, and How it Might be Brought Back

Abstract

This article explores parallels between the debate prompted by Pareto’s reformulation of choice theory at the beginning of the twentieth century and current controversies about the status of behavioural economics. Before Pareto’s reformulation, neoclassical economics was based on theoretical and experimental psychology, as behavioural economics now is. Current discovered preference defences of rational-choice theory echo arguments made by Pareto. Both treat economics as a separate science of rational choice, independent of psychology. Both confront two fundamental problems: to find a defensible definition of the domain of economics, and to justify the assumption that preferences are consistent and stable. One of the most significant developments in economics over the last two decades has been the growth of behavioural economics, which draws on the theoretical and methodological approaches of psychology in explaining economic phenomena. Behavioural economists take pride in grounding their explanations on empirical hypotheses about how human beings really think and act, rather than on deductions from a priori assumptions about rational choice, and in subjecting those hypotheses to experimental test. Viewed in historical perspective, behavioural economists are trying to reverse a fundamental shift in economics which took place from the beginning of the twentieth century: the Paretian turn. This shift, initiated by Vilfredo Pareto and completed in the 1930s and 1940s by John Hicks, Roy Allen and Paul Samuelson, eliminated psychological concepts from economics by basing economic theory on principles of rational choice. From then to the 1980s, almost all the main lines of development in economic theory were aimed at