For most of the last two and a half centuries, free markets and the “economic man” have been the backbone of mainstream economics. Adam Smith’s revolutionary theory of the “invisible hand” gave us a stunning image for understanding how humans and institutions create broad well-being through the pursuit of their own rational self-interest.

Phishing for Phools:
The Economics of
Manipulation and Deception

by George A. Akerlof and
Robert J. Shiller
Princeton University Press, 288 pp.

Smith himself was less of a pure free marketeer than is commonly remembered; he was acutely aware, for instance, that markets have a tendency to be taken over by rent-seeking monopolists. And economists have long debated how and when government must intervene to deal with negative externalities like pollution or income inequality. During the Great Depression, John Maynard Keynes offered his own rebuttal, writing that major government intervention was sometimes needed to jolt an economy back to life. His ideas dominated the economics profession and government policymaking until the Keynesian consensus collapsed in the face of a 1970s stagflation it could neither explain nor fix.

In its place, a new generation of free market thinkers came to prominence, epitomized by people like the former Federal Reserve chairman Alan Greenspan. Greenspan, along with countless others, ignored growing risks to the mortgage and securities markets and eschewed calls for more regulation, instead pumping up the housing market with low interest rates. The subsequent financial collapse in 2008 went a long way toward dethroning free market purists—even Greenspan, an Ayn Rand acolyte, conceded to “a flaw” in his vision of how markets work. But a new consensus vision of how the economy operates has yet to emerge.

One contender for that role, a school of thought that has been building since the 1960s, is behavioral economics. The convergence of psychology and economics provides a much richer—if inherently more complicated—understanding of the decisionmaking that underlies markets. Over time, researchers have found a growing number of cases where we fail to act as rationally as economists might hope. For example, we’re loss averse—the pain of losing $100 is twice as bad as the happiness from gaining $100. Similarly, to save mental energy, we’re inclined to stick with a default choice—economists have found, for instance, that people are much more likely to participate in posthumous organ donation if they have to “opt out” of the program rather than “opt in.” This has important implications for all manner of decisions—from the web browser we use to how much we save for retirement, if we save at all.

And now, two of the country’s foremost economists, George Akerlof and Robert Shiller, are striking yet another blow to the theory of the perfectly rational man and the viability of purely free markets. In their new book, Phishing for Phools, the Nobel Prize-winning duo endeavors to explain why both a shortage of information and our own psychological weaknesses are not just anomalies to be studied in isolation but are at the heart of the market system. According to Akerlof and Shiller, economists “systematically ignore or downplay the role of trickery and deception in the working of markets,” to the detriment of society at large.

The authors use the metaphor of internet “phishing”—a process in which online perpetrators “angle” for information—to describe a broader phenomenon at play in the markets. (One example of phishing is the “Nigerian prince” who emails that he wants to share a large sum of his fortune with you in return for your bank account password and a small up-front fee.) The analogy suggests that all across the economy, and even within the political system, regular people play the “phools” who are repeatedly bilked.

Phishing for Phools is not a morality tale about unscrupulous actors or corporations. It’s a warning about the impact of market pressures when there’s money to be made.

Free markets are based on the concept of maximizing profit; some will use forms of manipulation to secure that end. Markets still reach a balance—what economists call equilibrium—but that balance is predicated on deception. “Free markets produce good-for-me/good-for-you’s; but they also produce good-for-me/bad-for-you’s,” Akerlof and Shiller note. “They do both, so long as a profit can be made.” Indeed, what if we thought about the rise of unscrupulous online universities or the recent blowup at Volkswagen for cheating on its emissions tests not as aberrations, but as consequences baked into the market system?

The argument is profound in part because it borders on the obvious. Exploitation and chicanery are at least as old as humankind. And most consumers already have an inkling that businesses are not uniformly operating with the best of intentions. But what the authors provide is a sort of unifying theory for all kinds of trickery, an economic explanation for why deception is so rampant. It takes many of our scattered findings about humanity’s blind spots—both psychological weakness and a lack of perfect information—and weaves them into a comprehensive framework that has the potential to be devastating for free market fundamentalists.

The heart of this slim and generally accessible volume is a series of examples in which phishing has hooked individuals and society at large. The stories they tell are not novel—they examine manipulation in everything from the advertising market to the sale of alcohol and tobacco to the role of money in politics. But the vast cross-section of examples helps to build the case that the exploitation they describe takes many diverse forms. Cheating is common, extensive, and inevitable.

The seriousness of the thesis is underscored by the pedigree of its messengers—two of the most influential economists in the modern era. The authors are not lefties with a political ax to grind, though they do have a history of exposing shortcomings in the neoclassical, free market thinking that dominated the decades leading up to the financial crisis. Akerlof, who is married to Fed chair Janet Yellen, won the Nobel Prize in 2001 for his groundbreaking work on asymmetrical information and what happens in markets when sellers hold more information than buyers. Shiller, meanwhile, won the top prize in the field in 2013 for his earlier work on asset bubbles and market prices. The two previously teamed up on a 2009 book, Animal Spirits, that examined the failure of economists to account for the role of human emotions in decisionmaking. Shiller and Akerlof describe themselves as “admirers of the free market system,” despite their repeated efforts to shine a light on its flaws.

One of the authors’ favorite examples is the case of Cinnabon, which expertly places storefronts at shopping malls and airports, where consumers are often harried and short on time. The doughy blend of sugar and fat is designed to tempt; the company’s president has proudly proclaimed it an “irresistible indulgence.” The market’s “insistent equilibrium”—its drive for profit—ensures that “if there were no stall selling Cinnabons, or the like, at the airport or at the mall, one would open soon.”

Indeed, it would seem that the comedian Louis C.K. stumbled upon this weighty economic truth in his infamous bit about the cinnamon rolls:

I’m buying a Cinnabon at the airport that I arrived at. You understand why that’s extra disgusting, right? Because when you’re at the airport you’re leaving from, you can go, “Oh, I gotta eat. I need some food, because I might be trapped in the sky forever, so I should eat right now.” But … I’ve landed. The trip is over. I’m twenty minutes from my house, where I got bananas and apples and shit. And I’m sitting on my luggage just fucking eating a Cinnabon with a fork and knife.

Of course, when it goes undetected, manipulation can have much more catastrophic consequences than an attack on our waistlines. For evidence of that, we have to look back just a few years at the financial crisis and its devastating effects on homeowners, workers, and the overall economy. The authors are clearly troubled by the lack of critical questioning that preceded the mortgage meltdown. “It is truly remarkable that so few economists foresaw what would happen,” they write. “Had we economists appropriately seen free markets as a two-edged sword, we would all but surely have delved into the ways in which financial derivatives and mortgage-backed securities, and also sovereign debt, would turn out badly. More than a handful of us would have sounded the alarm.”

It’s unfortunate that the book covers such a broad swath of examples, many of them dated, aiming for breadth instead of depth. It’s written for a general audience—market equilibrium is discussed with a story about shopping lines at the grocery store—and perhaps loses some of the nuance needed to rigorously explain this important thesis and its consequences in more theoretical terms.

But if the book is a warning for consumers and students, it’s also a damning critique of free markets that I hope will be explored at length in the future. For example, the authors shy away from delving into some of the serious macro-
economic implications of their findings. How much GDP produced every year is based not on real economic growth but on various forms of trickery— pharmaceuticals and medical procedures that, for instance, don’t enhance our well-being any more than cheaper alternatives but that the FDA has no power to block? And what has this baseline of manipulation done to public trust? Perhaps these are questions for the next generation of economists to take up, building on the shoulders of Akerlof and Shiller, as well as the many who came before them. For now, the rest of us must remain on guard, because there’s always more “phish” in the sea.

Victoria Finkle

Victoria Finkle is a Washington writer, previously with American Banker.