University of Milano-Bicocca
Faculty of Economics
Honorary Degree in Scienze dell’economia
6 April 2005
Laudatio of Professor Daniel Kahneman
by Pier Luigi Porta

Daniel Kahneman stands out today as  the most relevant scientific figure in the realm of the vigorous new wave of research on the widening common ground shared by economists and psychologists.   A psychologist by training, his activity in research and teaching has now been  developing for many years at Princeton. A Nobel Laureate for Economics in 2002, Kahneman was singled out by the Royal Swedish Academy “for having integrated insights from psychological research into economic science, especially concerning human judgment and decision-making under uncertainty”.  The rise of the  subdiscipline of cognitive economics, under full development nowadays, could hardly be conceived without  his own contributions to research. 

Kahneman’s approach  embodies, as it were, a retrieval of the tradition of classical utilitarianism, from Jeremy Bentham down to John Stuart Mill, to Francis Ysidro Edgeworth, to Maffeo Pantaleoni and others.    New experimental instruments and a new conceptual apparatus  have been designed by him in order to explore the world behind choices:  the realm of preferences.  In the language of economic theory, it is probably fair to say that the new cognitive discipline can be conceived of as an alternative to the behaviouristic approach implicit in the axiom of revealed preferences, on which the standard  economic approach to human choice has long been based.   The new line of research is of comparatively  recent development: think, for example, that it has very little place in a staple reference work on the state of Economics as a discipline today, such as the New Palgrave, published in the 1980s by Macmillan.

The relationship of Psychology and Economics goes back to the link of pleasure and satisfaction to economic value in the philosophers of the ancient world.  Relevant episodes in the relationship are connected, for example,  with the famous St. Petersburg’s paradoxes  putting forward a challenge to justify the finite value of an infinite sum game;  a challenge taken up by Daniel Bernoulli in famous memoir of 1738, Specimen theoriae novae de mensura sortis, precisely on the basis of a psychologic notion of subjective value.  More facts in the rich and complex developments of the relationship of the two disciplines crop up during the 19^th and 20^th century.  Heinrich Gossen, Stanley Jevons, Carl Menger, Maffeo Pantaleoni,   Friedrich Hayek provide relevant examples on the economists’ side; a further step is represented by the Allais and Ellsberg paradoxes during the 1950s.

In spite of all the above developments, however, Economics has  ended up being conquered by a growing emphasis on separation and autonomy with respect to Psychology.  We cannot discuss the issue in the present context and we simply recall here that such an emphasis reflects  a line of thought stemming from very influential  contributions, such as those of Vilfredo Pareto, John Hicks, Lionel Robbins, John v. Neumann and Oskar Morgenstern.  That, as an approach to the problem, still is largely part of the prevailing public image of Economics as a scientific discipline.

That is why the logical and rhetorical strategy of the economic science has been based, at least since second half of the 19^th century and all through the 20^th century, on the assumption that each individual is endowed with stable and coherent preferences and that he or she rationally maximizes those preferences, following the well-known adage de gustibus non est disputandum, later called into question by several authors.  Under uncertainty, given a set of options and probabilistic beliefs, an agent is supposed to maximize the expected value of a specified utility function.   The canonical form of the economic problem then takes the shape of  a problem of optimisation – which is characteristic of the economic approach  such as it is described in Lord Robbins’ 1932 classic treatment.  In that perspective, Economics and Psychology are disciplines altogether separate and working on independent statutes.  Although that approach was often thought of in normative (rather than positive) terms, it is clear that economics has come to be based on a solid rational set-up  which is what any student of Economics is first taught even today.  Vilfredo Pareto had even theorized of Economics as the discipline of logical actions, i.e. actions motivated by instrumental rationality, to be kept separate from Sociology which deals with  non-logical actions.

We are living today  a transition phase.  It is one of the main achievements Daniel Kahneman’ scientific work to have brought back at the centre of the stage the  connection between Psychology and Economics thus giving rise to surprising and fascinating results.  In Kahneman’s view the formal consistency requirements of the so-called economic rationality are psychologically impossible: they quite simply cannot be met by the human mind.  However it would be a mistake to conceive of Kahneman’s position in the terms of  a radical critique of rationality.   That position rather implies that the sole realistic notion of rationality is the notion of bounded rationality, the concept introduced by Herbert Simon.

Simon[1] – an immensely creative economist and certainly a non-mainstream  figure in the profession, sometimes perhaps rather reductively mentioned as the father of artificial intelligence, and himself a Nobel Laureate for Economics in 1978 – would speak of  model of ‘olympic’ rationality for the standard case in the economic science (cp. his Reason in Human Affairs, Stanford, 1983),  a notion he contrasts  with  bounded rationality; the latter leads to substitute satisficing for optimization.   With Simon’s work the idea began to gain currency that what had constantly appeared to be the more robust, elegant and general scheme of analysis (i.e. the ‘olympic’ one)  had in fact to be set aside as insufficiently specified and unable to bear the burden of providing a benchmark rule of economic theorizing.  ‘Bounded rationality’ has since  gradually turned familiar to a wide area of research spanning Economics, Psychology, the Social Sciences and has become pivotal to a whole wave of new studies on psychological processes underpinning individual rationality and decisions.

However, it is only through Daniel Kahneman’s research work that it has been possible to understand more thoroughly why and, above all, how rationality is limited and to explore the psychic mechanisms through which  the actual beliefs  and preferences of the agents are generated.  Daniel Kahneman’s research presents a menu of important ways that Economics has traditionally misunderstood human behaviour thus ending up to endorse, in the name of rationality, misleading arguments about human behaviour.  A whole array of behavioural and experimental applications  –  in the field of  finance, organization, decision theory and so on – prove the fruitfulness of the approach and have improved economic analysis by incorporating greater psychological realism.   The research work in question has been in part developed in collaboration with other authors, notably with Amos Tversky and Richard Thaler.[2]  Kahneman’s scientific work has increasingly become the object of research and scientific discussion in Italy and in the European Countries especially during the late years.

*                                      *                          *

It is perhaps possible to speak of a former phase of Daniel Kahneman’s scientific activity, leading to the construction of his theory on the framing of decisions. In an important  work first published in 1986 with Amos Tversky, “Rational Choice and the  Framing of Decisions”, the authors argue  that “alternative descriptions of a decision problem often give rise to different preferences, contrary to the principle of invariance that underlies the rational theory of choice”.   The descriptive realism of the scheme of rational choice is called into question by the fact that it is impossible to stick to the classic ‘invariance principle’ – which maintains a sort of ‘neutrality’ of preferences with respect to the frame which provides the setting of their formation and where the process of choice  has its origin.    There are rules that govern the framing of decisions and it is necessary to take into account the psychophysical principles of evaluation embodied in prospect theory.  Kahneman and Tversky’s prospect theory lays the emphasis on a specific asymmetry in the process of evaluation and individual judgement and leads to the conclusion that different preferences  take shape, according as a given problem – with a given outcome in terms of expected utility – is formulated in terms of possible gains rather than in terms of possible losses.  At the same time two different modes, though logically equivalent, of specifying a problem can lead the decision makers to different choices.  In particular, since agents are empirically more sensitive to losses than they are to gains  (a principle later to be called loss aversion by Kahneman and Tversky), a frame which that highlights the losses associated with a choice makes that choice less attractive.[3]

We can understand that Kahneman’s works consists of series of specifications, routines, maps of bounded rationality  (following the title of his Nobel Lecture); specifications reflecting “the heuristics that people use and the biases to which they are prone in various tasks of judgment under uncertainty”, following a famous Science article (with Amos Tversky) in 1974.  What emerges is  a new theory –  which includes, at least in part,  the formation of preferences –  that provides an attack to the economic modelling of behaviour insofar as they are based on the application of olympic rationality (even if the latter were conceived in normative terms) on the basis of given preferences.

*                                      *                          *

The use of the notion of olympic rationality contributes to build up a strong tendency to identify the economic problem with a question of a relationship between  agent and commodities.  Under the spell of olympic rationality it is Robinson Crusoe – the man surviving on the desert island – that forms the prototype of the economic agent, the homo oeconomicus.   Kahneman and Tversky’s approach, on the contrary, is fully open to a conception of economics as the study of relations among (personal) agents including the implied strategic perspectives.

Moreover, in Kahneman and Tversky’s approach, the root of the insufficient descriptive power of ‘classical’ analysis of expected utility is also linked with an exclusive focus of the latter on final states or on the outcomes of a process of choice.  Contrary to that, the logic of the new approach implies a principle of reference-dependence whereby “the carriers of value are gains and losses  defined relative to a reference point”.  The transition from wealth to variations of wealth as carriers of utility is in fact made necessary precisely by that ‘irrational’ property of preferences that has been called ‘loss aversion’ as hinted above.  The approach stems from a view of perception and judgment emphasizing that the  a “general property of perceptual systems is that they are designed to enhance the accessibility of changes and differences”.

Both the above characteristics  (emphasis on relations  and emphasis on variations) lead to outline a subsequent  phase of Daniel Kahneman’s  work.  The latter phase is  rather more directly linked with the links of Economics to Happiness and adjoining fields.  The conceptual apparatus of traditional neoclassical theory in Economics is, in a sense, too poor to be helpful in that direction and that is a reason why studies on economics and happiness,  now flourishing, exhibit a distinctive heterodox character.  In Kahneman’s view, prevailing economic theory only takes decision utility into account, but it forgets about experienced utility.  Decision utility implies a perfect continuity between preference and choice; preferences, indeed, are inferred from choices.  Experienced utility brings us back to Bentham’s concept of utility as hedonic quality of human experience which can studies and gauged independently of the process of choice.

Recent works by Daniel Kahneman have increasingly given relevance  to a conceptual definition and measurement of well-being and happiness.  We may mention here the collection of papers published by the Russell Sage Foundation in 1999, ed. by Kahneman  with Ed Diener and Norbert Schwartz on Well-being: the Foundations of Hedonic Psychology.  On the same line I am pleased to mention here a contribution by Kahneman in this room, as he took part to the Conference on the Paradoxes of Happinessin Economics  in 2003.   Today also, in his Lectio doctoralis,  Daniel Kahneman is expected to retrieve some fundamental concepts of his analysis, such as attention and utility, with a view to offer  a contribution on  economics and happiness, thus making clear the unity and continuity of his own research program through its subsequent phases.

Studies on economics and happiness were brought to renewed like by Tibor Scitovsky and by Richard Easterlin by the mid-1970s  and they are now flourishing also as a result of  Daniel Kahneman’s contribution.   Kahneman himself has explained that Scitosvky  had scarce audience especially among economists as he was trying to retrieve (in substance) Bentham’s notion of experienced utility especially in order to explain the dramatic distorsion afflicting our economies nowadays and which is the consequence of an excessive attention on comfort (which involves a passive attitude of the consumer) to the detriment of stimulation and happiness (which in turn imply creativity and active participation).  Such macroscopic phenomena continue to be more or less ‘invisible’ to the income measures in Macroeconomics.

Daniel Kahneman contends that a closer look at emotions, affections, sensations and in general at edonic experiences is necessary today in order to offer a more solid and constructive basis for welfare and felicific calculus compared to the income and product calculations used in Economics.

At the present moment Kahneman’s researches on the subject of happiness aim at the practical result of finding an “index of national welfare” to be substituted for income as a standard indicator.  Kahneman’s researches on the concept and measurement on objective happiness are of great significance.[4]

As already hinted, the recent developments on economics and happiness have emphasized the need for distinguishing the use of commodities and the involvement in human relations.    If  Economics, from the discipline of optimisation, is transformed into a discipline of personal relationships and interactions, this fact can be seen as an indication a reconsideration of Adam Smith’s system stressing the links between the  Wealth of Nations and the Theory of Moral Sentiments leading to a much richer image of him compared to the traditional neoclassical rationality view of Smith.

A well-known theoretical economist, Luigi Pasinetti, in introducing the Bicocca Conference on the Paradoxes of happiness two years ago, expressed the opinion that the problems and the perspectives opened by Kahneman’s thought can provide an opportunity for reviving the classical paradigm in Political economy, a Smithian paradigm in the first place.  Also in this historico-analytic perspective, the interaction between Psychology and Economics – as it emerges from Kahneman’s reaerch work – questions the status of the ‘normal science’, throws new light on the significance and on the limits of economic thinking and opens the way to new possibilities and applications.

Finally I am very happy to report the vote of Department of Political Economy of Bicocca.

The Department, early in the New Millennium  (the Bicocca  University had just been founded), ventured to propose the award of an honorary degree to Professor Daniel Kahneman. 

We are most grateful to the Faculty of Economics and to the Senate of this University, in particular to the Rector and to the Dean of the Faculty, who have been prompt and earnest in  taking up the suggestion. 

It is a great event and a great joy  to host Professor Kahneman today and to associate him to our University with an honorary degree in Economics.