Licence to be Bad

Key idea 1

Controversial free-market economic ideas have shaped our modern worldview.

Let’s rewind to 1947.

The devastation of World War II had left European economies in shambles. To jumpstart growth, countries embraced policies of increased public spending, led by the influential economist John Maynard Keynes. Keynes championed government intervention as essential for rebuilding war-torn economies.

But not everyone agreed. A dissenting group of economists, spearheaded by Friedrich Hayek, gathered for a conference on Mont Pèlerin in the Swiss Alps. Though they were a minority at the time, their ideas would eventually rise to prominence.

The key idea: Free-market economics has come to dominate global thinking.

Several attendees of the Mont Pèlerin meeting later formed the Chicago School of economics. Their philosophy advocated minimal government intervention, arguing that the free market should dictate where resources flow, without interference from regulators or public officials.

This ideology became the foundation for Reaganomics in the United States and Thatcherism in the UK during the 1980s, embedding radical free-market principles into policy. Today, it’s widely regarded as the prevailing framework for economic thought. But is it the right one?

Consider its impact in practice:

1. The 2007 Financial Crisis:

When global markets collapsed, leading to widespread unemployment and financial ruin, many blamed government regulators rather than the banks at the heart of the crisis. This perspective—akin to blaming the police for a burglary—reflects Chicago School logic, which shifts accountability away from market actors to government oversight.

2. Climate Change and Free-Rider Thinking:

Free-rider thinking—the idea that individual contributions to change are so small they’re negligible—has fueled inaction on climate change. This pessimistic perspective, popularized by economist Mancur Olson in the 1960s, suggests that collective action is futile. It’s a mindset that not only discourages responsibility but accelerates environmental destruction.

Despite their widespread adoption, free-market and free-rider ideologies are far from objective truths. As we’ll explore further, many of these economic ideas fail to hold up under scrutiny, revealing the flaws in a worldview that has shaped decades of policy and decision-making.

Key idea 2

Game theory promotes an unusually self-centered perspective on human behavior.

Game theory is a widely recognized framework that predicts actions based on rational, self-interested decision-making. It gained prominence in the post-World War II era when mathematician John von Neumann advised the U.S. government to preemptively bomb the Soviet Union—a recommendation thankfully rejected by President Eisenhower.

Later, economist John Nash advanced game theory by emphasizing self-interest. Nash argued that people always act selfishly, even when they appear cooperative, as cooperation often aligns with personal gain.

Key takeaway: Game theory fosters a disproportionately selfish view of the world.

A central illustration of game theory is the Prisoner’s Dilemma:

• Two criminal accomplices are held in separate cells.
• Each is offered the same deal: betray the other and go free while the other receives a ten-year sentence.
• If both confess, they each get eight years. If neither confesses, they receive two years each.

According to game theory, the rational choice is to confess, regardless of the partner’s decision. This outcome is based on maximizing individual advantage—confessing ensures a better outcome, whether or not the other confesses.

The Prisoner’s Dilemma reflects real-world scenarios:

• Sports Stadiums: Standing gives a better view, but forces others to stand, disrupting the collective experience.
• Climate Change: Countries gain little individually by being the first to cut emissions, even though collective action benefits all.

However, human behavior often defies these selfish predictions. People frequently collaborate for mutual benefit, as seen in international agreements on carbon emissions and peace treaties that have prevented nuclear conflict.

While game theory doesn’t always align with actual human actions—and this divergence is a positive—it still encourages a coldly individualistic view of society. This perspective can distort how we approach cooperation and shared goals.

Key idea 3

Ronald Coase unintentionally inspired economists to glorify dealmaking.

How can governments address unemployment? One idea was to incentivize employers through financial rewards.

This concept was tested in Illinois in 1983. Nearly 4,000 unemployed individuals were invited to participate in an experiment: if they found and retained a job, their employer could claim a $500 bonus.

The results were underwhelming. A third of the invited participants declined to participate, and more than a third of eligible employers chose not to claim the reward. The arrangement simply didn’t sit well with many people.

This ill-fated scheme drew inspiration from an economic principle known as the Coase Theorem. Ironically, Ronald Coase himself didn’t support the interpretations that led to these ideas.

Key takeaway: Ronald Coase inadvertently encouraged economists to elevate dealmaking above all else.

Consider a scenario involving two farmers:

• Farmer A’s cows graze on Farmer B’s crops.
• Coase observed that the farmers would weigh the cost of the crop damage against the expense of building a fence and would only construct the fence if it was the cheaper option.

But here’s the twist: who has the legal right in this situation?

Coase challenged traditional economic thinking by asserting that the legal framework is secondary. For the farmers, the focus isn’t on legal justice but on finding the most economically efficient solution.

That said, the legal process can’t be ignored entirely—it involves transaction costs. These include research, legal fees, and negotiation expenses. Once these are accounted for, the optimal solution might shift.

Coase’s fundamental point was simple: transaction costs influence decision-making.

However, economists from the Chicago school reinterpreted his observations. They used the theorem to argue that transaction costs should be minimized—advocating for less government and judicial interference.

This perspective has led to some questionable applications. For example:

• The Illinois experiment to bribe employers was designed to facilitate straightforward Coasean dealmaking but failed spectacularly.
• Richard Posner, a controversial Coasean economist, even suggested replacing adoption with a free market for babies.
• Carbon markets allow countries and companies to trade emission rights, prioritizing efficiency over addressing the long-term damage caused by pollution.

Coase intended to highlight the role of transaction costs in economic decisions. Instead, his work has been misinterpreted to justify minimizing these costs, often with unintended and problematic consequences.

Key idea 4

Many economic theories cast undue criticism on government.

Take the slogan “Democracy is impossible.” It’s catchy and widely quoted, but its validity is questionable.

This idea originated from economist Ken Arrow’s Impossibility Theorem, a mathematical proof asserting that under a strict set of conditions, no collective decision-making system can consistently reflect the true collective preferences of everyone involved. In essence, it implies that no election can ever be truly democratic.

However, Arrow’s theorem is based on assumptions that don’t always hold in real-world scenarios. For example, it requires decision-making systems to produce a complete ranking of all possible outcomes, from best to worst. Most elections, however, only need to determine a single winner. In such cases, Arrow’s conclusions are not applicable. Yet, the slogan persists.

Key message: Many economic theories are unjustly critical of government.

In the 1970s, economist James M. Buchanan introduced public choice theory. This theory claims that everyone involved in politics—whether politicians, civil servants, or voters—acts out of selfishness. It further asserts that political outcomes, such as policy choices, are primarily driven by self-interest.

Public choice theory criticizes government regulation, arguing that politicians are more concerned with winning elections than serving the public good. It also portrays voters as uninformed, self-serving, and overly focused on short-term gains. These ideas have become widely accepted.

But is public choice theory accurate?

The theory is rife with contradictions. While it argues that voters are easily manipulated, it also inspired Ronald Reagan to successfully campaign on a platform of reducing public spending. This demonstrates that voters can, at times, prioritize long-term considerations over immediate interests.

Moreover, public choice theory can have a self-fulfilling impact. If public sector workers are told that everyone operates selfishly, they may become more inclined to act selfishly themselves. The same applies to voters and politicians: if they believe selfishness is universal, they’re likely to embrace self-interest as well.

Ultimately, this reflects the influence of economic theories, not an unavoidable truth. The behaviors public choice theory describes are often a product of its own assumptions, rather than an inherent reality.

Key idea 5

Free-rider thinking might seem appealing, but it can lead to disastrous outcomes.

Consider this example: Two criminals aim their guns at someone, intending to fire. Ultimately, only one pulls the trigger. Who is the murderer? It’s the person who fired, of course. Even if the second criminal would have acted if the first hadn’t, that doesn’t diminish the shooter’s guilt. Every legal system would agree: responsibility rests with the person who pulled the trigger.

This principle extends more broadly—individual accountability doesn’t vanish just because others might take the same harmful action. Yet, in certain contexts, people believe their own negative contributions are insignificant because they’re part of a group. This is free-rider thinking, and it’s wreaking havoc on our world.

Key message: Free-rider thinking may seem appealing, but its consequences can be severe.

The allure of free-riding has been around for ages. Even Socrates criticized it in Plato’s Republic. However, it gained new prominence in the 20th century with economist Mancur Olson.

Imagine a flood, and one person trying to stop it with a bucket. Does their effort make a difference? Not really. According to Olson, it’s rational to do nothing in such situations—it’s pointless to contribute if your actions won’t change the outcome.

This logic permeates modern life. Take tax evasion, for example. Since the 1980s, corporations have increasingly sought to minimize their tax payments, exploiting every loophole. The reasoning? If competitors are dodging taxes, why pay more yourself?

A similar mindset explains the slow response to climate change. Many individuals argue that their efforts, like reducing personal emissions, are insignificant compared to the actions of large corporations and governments. But this underestimates the power of collective individual action.

When enough people contribute, they can reach a tipping point that inspires broader change. This cumulative impact has the potential to spur meaningful action on a larger scale.

Free-rider thinking, however, encourages unhelpful strategizing in everyday decisions. In reality, the solution is simpler: collective cooperation. When we all participate, we can achieve significant results. And if we don’t, accountability should fall on everyone who chose not to act.

Key idea 6

Applying economic reasoning to everyday life can lead to some unusual conclusions.

Many of the examples discussed so far—such as voting systems or the climate crisis—don’t fall under what’s traditionally considered economics, like analyzing supply and demand. However, since the 1980s, there has been a growing trend of using economic principles to interpret and make decisions about broader aspects of life. This approach emphasizes achieving efficiency and optimal outcomes through economic reasoning.

The pioneer of this movement was American economist Gary Becker, whose ideas remain influential. Yet, some of Becker’s applications of economic thinking are quite surprising.

Key message: Applying economic reasoning to everyday life can lead to some unexpected conclusions.

In 1987, Becker proposed that immigration policies should be based on wealth. At the time, this idea was highly controversial. Yet today, it’s a reality in many countries, where people can gain citizenship by investing a specific amount in assets—practices seen in the US and various European nations.

During the 1970s and 80s, Becker also suggested a cost-saving measure for the US justice system: longer prison sentences. His argument was that harsher sentences would deter potential criminals, reducing crime and allowing for cuts in enforcement spending. However, this approach backfired. With fewer officers on the streets, crime rates rose sharply, demonstrating that criminals don’t always make decisions based on strict economic logic.

Becker’s theories rested on the assumption that people consistently make rational choices. For example, he explained smoking—despite its clear health risks—as a rational decision. Smokers, according to Becker, were simply choosing a shorter life in exchange for the pleasure of smoking, reflecting their personal preferences.

He even extended his economic reasoning to family structures. Becker argued that the traditional model of a working husband and a homemaking wife was the most efficient arrangement because it allowed each spouse to specialize in tasks they were best suited for.

This perspective is not only outdated but also highlights how peculiar it can be to view all aspects of life through an economic lens. Despite this, Becker’s influence persists. Books like Freakonomics, which popularize economic reasoning applied to unconventional scenarios, draw heavily from his ideas.

The problem is that analyzing life solely through the detached, overly rational perspective of “homo economicus” can strip away the human complexity and values that make for a healthy, balanced way of living.

Key idea 7

People don’t always react to incentives the way economists predict.

In the 1990s, several day care centers in Haifa, Israel, faced an issue: parents were arriving late to pick up their children. To address this, the centers implemented a fine for late pickups. Surprisingly, instead of reducing tardiness, the number of late arrivals increased.

Contrast this with a different case from 2011, when the UK government aimed to reduce the use of single-use plastic bags by introducing a charge for each bag. This initiative led to an 80 percent drop in usage.

Why were the outcomes so different? The explanation lies in messaging. Incentives and disincentives are only effective when they resonate with the intended audience. It’s not just about the financial cost; the underlying message plays a critical role.

Key message: People don’t always respond to incentives the way economists predict.

When the UK introduced the plastic bag tax, it was accompanied by a comprehensive public awareness campaign, explaining the environmental benefits of the policy. By contrast, in Haifa, the daycare parents received no such context. They simply perceived the fine as a fee—essentially a price they could pay for the convenience of being late—so they no longer felt guilty about their tardiness.

British social researcher Richard Titmuss provided another example of misaligned incentives in his 1970 book, The Gift Relationship. He analyzed experiments in some US states where people were paid to give blood rather than relying on voluntary donations. The experiment failed.

For one, the financial incentive led some participants to lie about their medical histories, compromising the quality of the donated blood. Additionally, payment discouraged many who would otherwise have donated altruistically. For these individuals, giving blood wasn’t about money—it was about the moral satisfaction of helping others. Once this sense of charity was removed, their motivation disappeared.

This highlights a fundamental issue: human behavior is complex, and monetary rewards aren’t always the best motivator.

Many economists believe everyone has a price. Even if that’s true, it raises serious ethical dilemmas. For instance, incentivizing certain actions, like bribing a judge, is inherently immoral. Furthermore, in extreme situations, incentives can cross over into coercion—whether through exorbitant financial offers or threats of harm. In such cases, people are no longer making free choices; they are being corrupted or forced.

As British philosopher Isaiah Berlin aptly put it: “The mere existence of alternatives is not … enough to make my action free.”

Key idea 8

Our probability models are deeply flawed.

In August 2007, David Viniar, then CFO of Goldman Sachs, faced a chaotic period in the financial markets. In an interview with the Financial Times, he described the events as “25-standard deviation moves” occurring “several days in a row.”

To put this in perspective, a 25-standard deviation move is so improbable that it’s like winning the British lottery 21 times consecutively—an event that should happen less than once in the entire history of the universe. Yet during the financial crisis, such events were occurring repeatedly. This leaves us with two possibilities: either we experienced an astronomically unlucky streak, or the statistical models were fundamentally flawed.

This wasn’t an isolated occurrence. Similar “impossible” events happened during Black Monday in 1987 and the dot-com bubble of the early 2000s. Clearly, there’s a serious problem with how probabilities are modeled in finance.

Key message: Our probability models are deeply flawed.

The most commonly used probability model is the normal distribution, recognizable by its bell-shaped curve featured in countless math textbooks. In this model, extreme events like financial crashes are positioned at the very edges of the curve, making them so rare they’re practically dismissed.

However, not all phenomena adhere to a normal distribution. The stock market, for example, follows a very different pattern, known as a fractal distribution. This type of distribution exhibits scale invariance—the patterns look the same whether you zoom in or out. Fractal distributions describe phenomena like earthquakes or snowflake patterns.

Under a fractal distribution, the likelihood of extreme events declines much more gradually than in a normal distribution. Financial crashes, while still improbable, are not so rare that we should ignore their possibility. Unfortunately, calculating probabilities with fractal distributions requires vast amounts of data. And when it comes to financial crises, the historical data available is insufficient.

This issue exposes a broader truth about probability: some things are inherently uncertain. Too often, we assign probabilities to events without sufficient evidence, essentially making educated guesses.

Take climate change as an example. Projections for its impact are broad, vague, and rely on problematic assumptions. Many models, for instance, assume that the lives of future generations are worth less than those of people alive today.

Instead of overreaching with flawed models, we’d benefit from acknowledging the limits of probability. There are simply some things we cannot predict with precision—and admitting this could lead to more realistic and responsible decision-making.

Key idea 9

Modern economics is unnecessarily accepting of extreme inequality.

It’s widely recognized that inequality is a significant issue in today’s world. Interestingly, however, inequality is just as pronounced among the wealthy as it is in society as a whole.

Inequality follows a fractal distribution—just like the stock market or snowflakes discussed earlier. This means it is also scale-invariant. For example, if you look at a country’s income and find that the wealthiest 1 percent earn about 20 percent of all the income, scale-invariance means that within that 1 percent, the top 1 percent will also earn 20 percent of their share.

So, are high levels of inequality inevitable? No, they’re not. Since the 1980s, inequality has risen in countries like the US and the UK, where economic policies have favored free markets. But in other countries, inequality hasn’t increased in the same way. Inequality can be reduced.

Key message: Modern economics is unnecessarily accepting of extreme inequality.

Many people believe that individuals deserve what they earn. We often build myths around the ultra-wealthy. For instance, does someone like Bill Gates truly deserve his vast wealth? Gates came from a privileged background, and his innovations were built upon the work of others. Yet, his financial success overshadows that of many others.

We not only tolerate this inequality, but we also actively encourage it. For example, relatively low top tax rates in the US are a clear illustration. Under President Eisenhower, the top tax rate was 91 percent, but the current consensus is that high taxes discourage economic activity.

However, this assumption is deeply flawed. Think about it—would you really be motivated to work harder if your taxes were lower? Lower taxes might make you less motivated, as you’d earn more for the same amount of work. And, importantly, taxes are useful, funding essential public services. We shouldn’t all be aiming to pay less in taxes.

The idea that lower taxes motivate people is just another example of the flawed reasoning behind many modern economic theories. As we’ve seen throughout these key ideas, what are presented as objective facts often turn out to be value judgments—and these judgments can be dangerous.

Economic theories rarely reflect the reality of human behavior, so we should stop pretending they do. It’s time to pay less attention to economists and embrace the fact that none of us is the homo economicus these theories describe.

Final Overview

The key message of this book:

Over the past few decades, a set of economic ideas, frequently advocating for the free market, has become highly influential in shaping policies and even our thinking. Concepts like game theory, public choice theory, and free-rider thinking have collectively made a narrow, self-interested view of the world seem like the norm. It’s time we paid much less attention to those economists who attempt to present their damaging beliefs as facts.