Jean Tirole is the 2014 Nobel Laureate in Economics (Photo AFP)

Jean Tirole is the 2014 Nobel Laureate in economics (or for purists: the winner of the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel). He won the prize “for his analysis of market power and regulation.” His most influential work uses sophisticated mathematical models to think through the incentives created by compensation schemes, rules and other mechanisms designed to influence agents. This helps us understand how to write optimal contracts, organize firms and design regulation (see Tyler Cowen’s excellent description).

Most of Tirole’s seminal theoretical contributions make the standard economics assumption that people are selfish actors motivated by material gains. In recent years, Tirole has written a large number of papers (often with Roland Benabou) on how material incentives work in a world where at least some people some of the time are also motivated by personal values and social norms. The Nobel Committee’s write-up of Tirole’s work acknowledges that this is “without any doubt” an important field, but it also writes that this is “a field in which knowledge has had less time to settle, and we therefore do not discuss these contributions here.”

Even though Tirole didn’t win his Nobel for this work, it is well worth a closer look. His theories typically assume that there is some uncertainty about how values are distributed in society or even that individuals are unsure about their own values and abilities. Incentive schemes, regulations and laws are based on some assessment of these values. Thus, they convey not only incentives (through carrots and sticks) but also send a message about society’s values or someone’s assessment of an individual’s intrinsic motivations or abilities. This information may alter the behavior of individuals who are sensitive about what others think, for example, because they value the approval of others but they don’t know precisely how many others value a pro-social behavior by how much.

Alex Tabarrok discusses one example here based on the idea that giving your kid financial rewards to perform well in math doesn’t just provide an incentive to do well in math but may also communicate potentially negative parental assessments about your kid’s intrinsic motivation or talent. This information may negatively affect a desire to do well and may crowd out any positive effect from the material incentive.

Another example is this NBER paper on laws and norms. Benabou and Tirole argue that the expressive value of law can be understood as conveying policymakers’ assessments of the distribution of values in society. This expressive function of the law may interfere with economists’ well-intended policy prescriptions based on an analysis of purely material motivations. This may be because people simply don’t like grim assessments about the motivations of their fellow human beings, but, as they put it: “societies could be justifiably concerned about spillovers from policies that express too dim or mercantile a view of human nature.”

For example, economists generally favor that societies allow financial compensation for organ transplants. Many societies are resistant to this idea. The Tirole and Benabou model suggests that this may be so because adopting a law that allows compensation concretely signals that strong incentives are needed to generate the pro-social behavior. This can undermine social norms because people are less likely to believe that large numbers of others will expect them to participate in the  pro-social act.

Other examples are taxes rather than prohibition for prostitution and certain drugs. Here the suggested policy reform attaches a price to what is deemed socially undesirable behavior. This mercantile assessment of human behavior may inform people that the social cost of partaking in these activities is lower than they previously thought.

To be sure, these theories merely point to the existence of trade-offs. One cannot say that allowing financial compensation for blood or organ donation is unwise based on this analysis. To draw such a conclusion we would have to assess empirically whether the gains from the material incentive are sufficient to overcome the potential losses from preexisting pro-social behavior. Still, this body of work importantly extends the toolkit of economists in the analysis of social policies.