Sunday, May 12, 2013

The psychological poverty trap

The poor aren't less able, they're distracted, says poverty expert Eldar Shafir. Privileged people subjected to the same conditions would also make bad decisions.

By Asher Schechter

Feb.23, 2012

From Haaretz

In a behavioral economics experiment several years ago, researchers asked shoppers at a New Jersey mall to handle the following decision: Have your faulty car repaired for either $150 or $1,500. While the participants were considering how to decide, they were given simple cognitive tasks like solving puzzles.

The researchers, Prof. Eldar Shafir and Jiaying Zhao, both from Princeton University, and Harvard University Prof. Sendhil Mullainathan, expected that the stress from contemplating the $1,500 expense would hurt performance. They were right. But participants with above-average incomes succeeded in their tasks under both scenarios, while those with average or low incomes did worse as repair costs climbed.

Even the prospect of spending any money at all damaged the ability of low-income earners to think rationally.

Similar tendencies were found on the other side of the world. Shafir and Mullainathan tested the intelligence of sugarcane growers in India during two different periods: after selling the harvest, when they enjoy relative prosperity, and before the harvest, when times are tightest. The farmers had better IQ results during the season of plenty. Before the harvest they had problems making fateful decisions, because of stress. The study concluded that poverty generates a psychology of its own.

Most of us judge poor people, viewing them at worst as lazy, at best as suffering from deficient financial behavior. We've gotten used to thinking that being poor is their fault: If they were smarter or more industrious they surely would have overcome their poverty.

Shafir, however, claims that the real culprit isn't lack of ability but problems created by poverty. "These problems are distracting and cause mistakes," he told Markerweek in an interview.

"When you're poor you're surrounded by bad decisions of people around you," he says. "You're so concerned about the present that you can't begin thinking about the future, and that's the big irony: People with the greatest need to think about the future don't have the leisure or emotional capacity to do so. The very essence of poverty complicates decisions and makes immediate needs so urgent that you start making wrong choices. These mistakes aren't any different from anyone else's, but they occur more frequently due to the element of stress, and their implications are much greater."

Shafir, who was born in Israel and moved to the United States after his military service, has taught at Princeton University's Department of Psychology since 1989. The White House recently announced Shafir's appointment to President Barack Obama's Advisory Council on Financial Capability, which seeks to broaden financial education and make financial information widely accessible.

Shafir leads several initiatives developing policy to combat poverty, including ideas42, a Harvard-based think tank that Shafir co-directs with Mullainathan. The institute, which seeks solutions to social problems via behavioral economics, studies how people reach decisions.

Shafir has proved that anyone faced with adverse conditions will consistently make bad economic decisions. An experiment he conducted with Mullainathan and Zhao placed financially-savvy Princeton students from prominent families under the stressful and rushed conditions that poor people face every day. They were given questions to answer in a series of timed rounds, but were permitted to "borrow" time from a subsequent round.

"My students at Princeton are well-to-do and intelligent," Shafir says. "They are the sons and daughters of senators and other highly successful people. And yet these brilliant students took precisely 10 minutes to start borrowing too much; they were tending to the present without any thought to leaving something for the future.

"Given enough time, a person will consider the future cautiously. He won't engage in nonsense and won't borrow at high interest he can't afford. But if you put him under strict deadlines and pressure him, he'll start behaving foolishly. We all put off for tomorrow things that need to be done today, and pay high interest because we didn't pay on time. All the mistakes poor people make with money we make with time - but for them the price is too high. A person probably doesn't seem intelligent when he doesn't have enough time to consider the future, but if he did have enough time he would start acting intelligently. Poverty is an emotional state."

The poor subsidize the rich

But the poor make very logical financial decisions for the moment, says Shafir. "When you're poor, all your attention is focused on solving the poverty issue. The upshot is that you function quite successfully because you make wiser use of your shekel than I would," he says.

"I'm wasteful, forgetful and don't pay attention, but the poor are very conscious of the shekel's power. Shekel to shekel they cope beautifully. The problem is that when you're so focused on this, you don't notice all the rest. So you're the best shopper possible but forget to pay the electric bill - and this can cause very knotty problems. While you concentrate on one thing all the rest falls apart."

According to Shafir, "When I make a financial mistake I get upset and move on. When someone poor makes a mistake, he pays for it for months - even years. He needs to borrow at gouging interest to return the money, and it takes him months .... The entire structure crumbles beneath him, and it's hard to grasp how exhausting this is and how it leads to blunders. And this is all without mentioning the considerable differences between a poor living environment and others - from noise, dirt and education all the way to health care.

"If you're Robinson Crusoe you don't think ahead to what you'll build in two months, just to what you'll eat today. It's not a question of character - it's what you have. From the standpoint of sheer human ability, put the poor in the right environment and they'll behave like anyone else."

The problem is even greater when taking into account that the world does all it can to trample on the poor. "Think of all the means at our disposal to help us deal with time constraints. We have alarm clocks, helpers, nannies and dozens of other things helping us function with limited time," says Shafir.

"A poor person has very little. In fact, not only isn't he helped, he gets harassed, taken advantage of, cheated. I have a good lawyer, he has a lousy lawyer. My bank gives me all the possibilities to choose from that he doesn't get. It's not that the world just doesn't help the poor, it trips him up even further," he says.

"For example, it used to be common for banks in the U.S. to send me my credit card statement and let me pay it by June 20. It turned out that the 20th fell on a Sunday, so if I followed their advice I would be forced to pay late and it would cost me a $35 penalty. That's how it was until Obama made this practice illegal.

"If I needed to pay a $35 penalty I got tripped up, but what did I care? But with a poor person - his whole week is changed. The world isn't prepared to help him because the attitude is that he brought it on himself and can't be helped. By the way, my current account doesn't cost me a penny. The bank isn't a charity, so how does it do it? The poor subsidize me. Each time one of their checks bounce they subsidize my account - which doesn't have any fees attached."

Recently we've been hearing the slogan "We want justice, not charity." Policymakers, missing the point, continue talking about grants and handouts. Those solutions are worthless, says Shafir; throwing money at a problem merely perpetuates it.

"The poverty problem could be solved in two ways: Either make them wealthy or understand that context is a large part of the problem and make it easier on them," he says. "The matter could be tackled several ways; for instance, if employers or the government set up programs to help people save. A group of friends could establish a club that decides: 'Let's compel ourselves to look after one another and make sure we do the right things.'"

A human being buys herself a cake

Classical economics, as opposed to behavioral economics, doesn't take psychology into account, says Shafir, so welfare policy in the West has actually widened income gaps over the last few decades. "Classical economics assumes a person does things rationally," he says. "If he doesn't succeed then he apparently isn't smart enough, and this makes him poor. The behavioral economist says everyone makes mistakes, and if you leave them without assistance they'll blunder even more. Everyone errs, but when you have money the mistakes seem less severe."

One of the biggest problems, says Shafir, is the message the poor receive from the system: You're poor because you're no good. "It's very easy for the poor to swallow this idea," he says. "The attitude that the poor are less successful is very common and very wrong. These days the survivor is the one with luck: Once in a blue moon someone pulls through. So the system isn't 'survival of the fittest' at all."

Besides the enormous pressures on the poor, they often find themselves under sharp scrutiny, especially if they dare buy anything that seems extravagant. How could they waste NIS 100 at the hairdresser's, we ask, while their kids go hungry?

"What would you have them do?" wonders Shafir. "Can't they eat ice cream once in a while? The same lady who finishes the week with NIS 100 to spare and buys her kids a treat instead of saving it - even if she didn't buy it someone else around her would need the money. Her life is full of pitfalls. She too is entitled every now and then to give in to temptation and have some cake. So what? We also can't resist temptation: We're human."

According to Shafir, the main thing policymakers need to keep in mind is that people tend to behave passively rather than rationally.

"People's default pattern is to adopt a position and maintain it," he says. "They'll want to change something, plan to change it, intend to change it - but they won't. It happens to people at all levels, the successful and clever ones too.

"Take, for example, two scenarios we tested. Starting a job, they tell you 15% of your salary will go toward your pension and give you a phone number to call if you want to change it. 'Feel free to call and ask,' you're told. In the second scenario they tell you: 'Here's the phone number. Call and tell them to allocate up to 15% of your salary to your pension.' The result is that the respondents in the first scenario save toward their pensions four times as much as the second half, even though all it involves is one measly phone call. Welfare policy is based on the idea that if I understand and want something, maybe something could help me. But if you really want to help me, simply give it to me. Don't count on my finding the time and knowing what to do," he says.

"People take money from one account and transfer it to a savings account. An economist would see this as ridiculous, but from people's standpoint there's an account that isn't touched and another that's used. The chances of the money holding out are entirely different. If the government insists on an approach that says there's no difference, then it loses the ability to help me. It's important to understand human behavior and act accordingly."

Do you think this doesn't apply to you? Think again. The economic crisis and approaching recession are likely to push many of us into poverty. The statistics, Shafir says, are alarming. "One of every two Americans will reach a situation of real monetary scarcity within a few years: not abject poverty but real difficulty in maintaining a standard of living. The situation is obviously terrific compared to poverty in Sudan, but if my kid doesn't have a computer because I can't afford it while everyone in his school has one, it will make me feel poor," he says.

"Poverty is to a large extent an emotional state. If I can't afford to eat at a restaurant where I always ate, if I can't get through the month like I used to - that's scarcity. At that level many are about to become poor. The middle class is shrinking and many people are stressed about their future and their children's futures. Even among the top 1% there's worry. Some continue leading their normal lives, but many are tightening their belts: Doing less and buying less."

The economic crisis in the United States was largely the result of a human trait studied by behavioral economists like Shafir: Wanting it all, meaning people's tendency to disregard their financial situation, take on debt they can't handle and attain a standard of living they can't afford. When it became clear how irresponsibly Americans had behaved leading up to the crisis, many people said financial education from a young age was the solution. A ridiculous idea, says Shafir.

"You can't teach people finance," he says. "You can't teach someone to treat himself as a doctor would, maybe just raise his awareness about his body. The idea of educating people to do the right things financially is a bit absurd. It's like a diet: Part of it depends on me, but it would help if they didn't sell me fattening food. The solution is to improve the context, not the person."

Although scarcity and distress keep spreading as the crisis continues, people still refuse to accept this fact - and refuse to recognize the similarity between themselves and the poor. In fact, they aren't even willing to read about poverty. "I'm writing a book now with Sendhil, and to avoid the stigma of poverty we decided to have the title refer to time constraints. We'll sneak the poverty in afterwards, inside the book," he jokes.

The key to a positive change in society, according to Shafir, is grasping the importance of context in the decision-making processes of the poor and the non-poor, and building a social system that isn't based on ignoring it.

"First of all, the state must stop blaming the citizen. The protest movement was supported by 80% of Americans, and there is rarely anything 80% of Americans can agree on," he says.

"This means the method we developed hasn't worked, because you leave people with economic responsibility for their lives while most of them can't deal with it. The ability to take control, anticipate the future and plan for it is beyond their grasp. When you assume that a person is responsible for these things, you're saying that it's his mistake when it's actually yours - because you gave him responsibility that you shouldn't have. People need a framework that helps them. We're very talented creatures but we have a tendency to make mistakes."

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