George Akerlof, one of the winners of the economics Nobel in 2001, would probably be delighted to be in India these days. The manner in which the Congress and its president Sonia Gandhi have gone out on a limb on account of the Women’s Reservation Bill begs questions on what motivates them. What would make them put at risk a government that is less than a year old?
Akerlof and Rachel E. Kranton try to provide answers to questions such as this in their book Identity Economics: How Our Identities Shape Our Work, Wages, And Well-Being (Princeton University Press, 2010).
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The book was the outcome of a 15-year engagement the authors have had on the role of identities in economic decision-making. For Akerlof, it is a continuation of an extensive body of work, which blends sociology with economics to make sense of the way things are. Bringing “fuzzy” notions into economics is Akerlof’s speciality, influenced partly by his experiences in India in the late 1960s.
The essence of the book is to place social contexts at the heart of an individual’s decision-making. Tastes vary with social context, and concepts such as identity and norms influence the outcome.
Akerlof and Kranton incorporate identity into decision-making by grafting it on to a basic tool of economics: the utility function. The utility function is a way of describing motivation, a mathematical expression of what an individual cares about. Traditional economics has used monetary and other abstract notions to construct utility functions. This was tweaked over time to capture non-monetary aspects. Akerlof and Kranton bring the utility function closer to the real world by introducing social contexts into it.
It is obvious social contexts influence decision-making. The advertising industry survives on it. But the difficulty in bringing social contexts into economic models is that it makes constructing a model difficult, which perhaps partly explains why some of the assumptions in economic models appear out of touch with reality.
The work of Akerlof and Kranton is part of a prolonged effort to transform economics and bring it in sync with real-world observations. Akerlof has played an important part in this transformation. His work on the impact of asymmetric information on market outcomes, which fetched a Nobel, was a part of the transformational work. More recently, behavioural economics has brought insights from psychology into economic analysis.
Norms are at the centre of identity economics. The book defines norms as social rules regarding how people should behave in different situations. These rules are internalized and often deeply held.
Norms, the book argues, eventually play an important role in how economies work. Akerlof and Kranton feel that in every social context, people have a notion about who they are, which is associated with beliefs about how they and others are supposed to behave. This notion has a critical bearing on an individual’s decisions.
The book examines a utility function following the addition of identity in different situations, at work and school, and in terms of gender and race, to show how social contexts add to our understanding of why things are the way they are.
The last economic boom had a marked influence on the workplace. Attrition rates were high, and managers often complained of a shortage of talent.
One of the reasons for growing attrition rates was the availability of alternative jobs. Often, employees left because they felt short-changed by appraisals. Identity Economics points out that complex modern organizations involve teams, which makes it difficult to accurately assess the effort of individual workers.
In such a situation, money is unlikely to be a strong enough glue to prevent attrition or a powerful tool to offset resentment.
The book builds social context into analysing such a situation to show firms are better off when they get workers to share their mission. Non-monetary factors make the difference.
With the Women’s Reservation Bill as the focal point of debate in Parliament, it is interesting to read conclusions of the book on gender and work. When Akerlof and Kranton built their utility function in the labour market by introducing two social categories, men and women, the conclusions showed that the market failed to bring about social change. Firms tend to underuse women’s skills as social contexts ensure that only men are usually hired for jobs seen as a “man’s job”. In this situation, no firm has the incentive to pioneer a change.
The book concludes that bringing social context into the model analysing the labour market shows why it needed a social movement and government intervention rather than a competitive marketplace to end discrimination against women in the US.
What insights does Identity Economics have when one tries to make sense of the motivations of key players in the drama surrounding the passage of the Women’s Reservation Bill? Some political leaders try to change identities or norms instead of taking preferences as given, Akerlof and Kranton conclude. It is a useful place to start when one tries to figure out why the Congress and its president went out on a limb.
Sanjiv Shankaran is a deputy chief of bureau at Mint. Comment at email@example.com