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The Brain as a Hierarchical The Brain as a Hierarchical Organization Organization I sabelle Brocas Juan D. Carrillo I sabelle Brocas Juan D. Carrillo USC and CEPR USC and CEPR USC and CEPR USC and CEPR Preliminary: May 2005 Preliminary:


  1. The Brain as a Hierarchical The Brain as a Hierarchical Organization Organization I sabelle Brocas Juan D. Carrillo I sabelle Brocas Juan D. Carrillo USC and CEPR USC and CEPR USC and CEPR USC and CEPR Preliminary: May 2005 Preliminary: May 2005

  2. What is “ “Neuroeconomic Theory Neuroeconomic Theory” ”? ? What is Stylized evidence of Neuroscience: Stylized evidence of Neuroscience: which brain system is activated when which brain system is activated when Modeling techniques of Micro theory: Modeling techniques of Micro theory: agency & incentive theory, agency & incentive theory, organizational design, etc. organizational design, etc. The brain is and should be modeled as is and should be modeled as The brain a multi- -agent organization agent organization a multi

  3. Objective of this research Objective of this research Understand behaviors difficult to reconcile with traditional Understand behaviors difficult to reconcile with traditional theories (just as recent behavioral economics literature): theories (just as recent behavioral economics literature): • Guilt Guilt • • Mistaken consumption of habit Mistaken consumption of habit- -forming goods, etc. forming goods, etc. • Provide “ “micro micro- -microfoundations microfoundations” ” for characteristics for characteristics Provide traditionally considered exogenous: traditionally considered exogenous: • Discounting Discounting • • Risk Risk- -aversion, etc. aversion, etc. • Revisit the individual decision- -making paradigm making paradigm Revisit the individual decision (not decision- -theory but game theory but game- -theory approach) theory approach) (not decision

  4. This paper This paper Incorporate in a model of the brain two findings that have Incorporate in a model of the brain two findings that have received support in neuro- -experiments : experiments : received support in neuro 1. Conflict in the brain between [McClure et al. (2004)] Conflict in the brain between [McClure et al. (2004)] 1. • Forward- -looking system (pre looking system (pre- -frontal cortex) frontal cortex) • Forward capable of intertemporal intertemporal tradeoffs tradeoffs capable of • Myopic system (paralimbic paralimbic cortex) cortex) • Myopic system ( interested only in immediate gratification interested only in immediate gratification 2. Restricted cognitive access within brain to: Restricted cognitive access within brain to: 2. • Motivations • Motivations • Beliefs • Beliefs “The heart has its reasons which reason knows nothing of The heart has its reasons which reason knows nothing of” ” “ (Blaise Blaise Pascal) Pascal) (

  5. A caveat A caveat 1. Assumptions based on neuroscience evidence: Assumptions based on neuroscience evidence: 1. • Conflict between myopic and forward- -looking looking • Conflict between myopic and forward • Asymmetric information • Asymmetric information 2. Modeling choices (no evidence yet) Modeling choices (no evidence yet) 2. • Vertical hierarchy: • Vertical hierarchy: - Forward- -looking = planner looking = planner - Forward - Myopic = doer - Myopic = doer • Private information possessed by myopic • Private information possessed by myopic

  6. Related literature Related literature 1. Hyperbolic discounting with incomplete information Hyperbolic discounting with incomplete information 1. (Carrillo- -Mariotti Mariotti, Brocas , Brocas- -Carrillo, Carrillo, Benabou Benabou- -Tirole Tirole, Amador , Amador- -Werning Werning- -Angeletos Angeletos) ) (Carrillo Main Differences: Main Differences: • Conflict within within (rather than between) periods (rather than between) periods • Conflict • Asym. info . info within within (rather than between) periods (rather than between) periods • Asym 2. Other dual Other dual- -self theories self theories 2. (Thaler Thaler- -Shefrin Shefrin, , Fudenberg Fudenberg- -Levine Levine, , Loewenstein Loewenstein- -O O’ ’Donoghue Donoghue, , Benhabib Benhabib- -Bisin Bisin, , ( Bernheim- -Rangel) Rangel) Bernheim Main Differences: Main Differences: • Asym. Info . Info (rather than full info.) within periods (rather than full info.) within periods • Asym • Constraints (rather than costs) in decision (rather than costs) in decision- -making making • Constraints

  7. The model The model • 2 periods of consumption and labor and 2 periods of consumption and labor and • ( , ) ( , ) c 2 n c 1 n 2 1 • Utility Utility • “Principal” P prefrontal cortex θ − + θ − [ ( ) ] [ ( ) ] u c n u c n 1 1 1 2 2 2 “Agent 1” A 1 “Agent 2” A 2 paralimbic cortex at date 1 paralimbic cortex at date 2 θ − θ − ( ) ( ) u c n u c n 2 2 2 1 1 1 where u u’ ’ > 0, > 0, u u” ” < 0 and < 0 and θ θ t is valuation at date t t where t is valuation at date

  8. ≥ • Consumption is non Consumption is non- -negative: negative: 0 • c t n t ∈ • Labor is non Labor is non- -negative and bounded: negative and bounded: • [ 0 , ] n • 1 unit of labor 1 unit of labor � � 1 unit of income 1 unit of income � � 1 unit of consumption 1 unit of consumption • • Perfect capital markets with interest rate Perfect capital markets with interest rate r r > 0 > 0 • � Intertemporal Intertemporal budget constraint: budget constraint: � + + ≤ + + ( 1 ) ( 1 ) c r c n r n 1 2 1 2 [Note: no individual rationality constraint] [Note: no individual rationality constraint]

  9. • A chooses his preferred pair • t chooses his preferred pair A t ( , ) c t n t … but but P P can restrain can restrain A ’s choices s choices … t ’ A t and we allow any any conceivable rule / restriction conceivable rule / restriction and we allow • P deals with A and A sequentially • P deals with 1 and 2 sequentially A 1 A 2 θ − + θ − [ ( ) ] [ ( ) ] u c n u c n 1 1 1 2 2 2 Principal P date 1 date 2 t Agent 1 A 1 Agent 2 A 2 θ − θ − ( ) ( ) u c n u c n 1 1 1 2 2 2

  10. Benchmark: Benchmark: conflict under full information conflict under full information P knows the valuation knows the valuation θ θ t of A t of A t P t For each θ θ t , P imposes on A a specific pair θ θ For each t , P imposes on t a specific pair o o A t ( ( ), ( )) c n t t t t Main characteristics of : Main characteristics of : θ θ o o ( ( ), ( )) c n t t t t - Consumption at t t increases with increases with θ θ t (valuation at t t ) ) - Consumption at t (valuation at - Labor at 1 is maximum (positive interest rate on savings) - Labor at 1 is maximum (positive interest rate on savings) - Labor at 2 is adjusted to meet budget constraint - Labor at 2 is adjusted to meet budget constraint � Positive relation consumption at 1+2 and labor at 1+2 Positive relation consumption at 1+2 and labor at 1+2 � “work more in your lifetime to consume more in your lifetime work more in your lifetime to consume more in your lifetime” ” “ � No relation consumption at 1 and labor at 1 No relation consumption at 1 and labor at 1 �

  11. Conflict under asymmetric information Conflict under asymmetric information knows his valuation θ θ t t knows his valuation A t A t only knows that θ θ t i.i.d. F( F( θ θ t ) P only knows that t i.i.d. t ) P cannot impose restrictions that depend on valuation θ θ t P cannot impose restrictions that depend on valuation � P � t Note: : Note Because constraint constraint (no access to (no access to θ θ t ) instead of cost cost of of Because t ) instead of imposing choices: imposing choices: - No presupposed tradeoff - No presupposed tradeoff - No preconceived idea of which restriction P P will will impose impose - No preconceived idea of which restriction

  12. : P vs. A Optimal rule at date 2 : P vs. A 2 Optimal rule at date 2 2 Trivial. No restrictions (except budget balance) because at . No restrictions (except budget balance) because at Trivial date 2 no conflict between P and A date 2 no conflict between P and A 2 2 sunk θ − + θ − [ ( ) ] [ ( ) ] u c n u c n 1 1 1 2 2 2 Principal P date 2 t Agent 2 A 2 θ − ( ) u c n 2 2 2

  13. : P vs. A Optimal rule at date 1 : P vs. A 1 Optimal rule at date 1 1 θ − + θ θ − θ * * * [ ( ) ] [ ( ( )) ( , , ( ))] u c n u c n c n c 1 1 1 2 2 2 2 1 1 2 2 Principal P date 1 t Agent 1 A 1 θ − ( ) u c n 1 1 1

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