Although you can get the wrong impression reading economics textbooks and journal articles, most economists are happy to admit they know many people whose reasoning is quite flawed: their spouses, children, students, colleagues, deans, college presidents, and so on. When pressed on why it is reasonable to base economic models exclusively on rational representative agents, while at the same time thinking that most of the people they interact with are at least occasionally bozos, typically some kind of evolution plus markets argument is offered. The argument proceeds something like this.
Suppose there were some less-than-fullyrational agents. I like to call them “quasi-rational,” meaning trying hard but subject to systematic error. Once these quasi-rationals started interacting with rational types, the rationals would quickly take all their money, after which the quasi’s would either learn or would be rendered economically irrelevant. Rarely is this argument spelled out carefully, and for good reason: It is false! When rational agents interact with quasi-rational agents, the rational agents cannot be expected either to take all the quasi’s money, or to set prices unilaterally. Indeed, careful analyses of such situations in financial markets, such as those by De Long et al. (1990), show that it is possible for the quasi’s—called “noise traders” in finance circles—to end up richer than their rational counterparts (by inadvertently bearing more risk).
Although papers mixing rational and quasi-rational agents have become popular over the past decade or so, it is still considered a novelty to have some quasi’s in the model. In workshops, presenters of such models still feel compelled to explain why they need to have these quasi’s mucking things up. My prediction is that in future seminars presenters will have to explain why they are using a model with only rational agents (unless the paper is on the history of economic thought). After all, analyses of market interactions between agents of various types is exactly what differentiates economics from other social sciences.
Psychologists, sociologists and anthropologists might help us improve our characterizations of economic behavior, but economists are the only social scientists with the tools to analyze what happens in market contexts. Note that I am not predicting that HE will disappear from economics research. At least two roles should remain. First, many aspects of the standard HE model are useful as theoretical special cases, much as perfect competition is used today. Second, when a few highly trained special agents can influence markets, as in financial markets, they can be usefully modeled as HEs, especially in models with heterogeneous agents.
Prof. Richard H. Thaler