Agent of Wealth Episode 100 – Bautis Financial Book Club: Animal Spirits by George Akerlof and Robert Shiller

In this episode of The Agent of Wealth Podcast, the Bautis Financial team discusses the fourth book assignment in their monthly Book Club, Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism by George Akerlof and Robert Shiller. In Animal Spirits, Nobel prize winner George Akerlof and Yale economics professor Robert Shiller assert that traditional economic theory places too much weight on quantifiable facts and not enough weight on emotion – “People have noneconomic motives. And they are not always rational in pursuit of their economic interests.”

In this episode, we discuss:

The five different aspects of Animal Spirits: confidence, the desire for fairness, corruption, money illusion and the importance of stories.
Whether or not we believe the concept of Animal Spirits should be incorporated into macroeconomic theory.
What our team liked most about the book.
What our team learned and took away from the book.
And more!

This is the fourth episode in the Bautis Financial Book Club series. Listen to the other episodes:

Resources:

Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism | Bautis Financial: 7 N Mountain Ave Montclair, New Jersey 07042 (862) 205-5000

Disclosure: The transcript below has been lightly edited for clarity and content. It is not a direct transcription of the full conversation, which can be listened to above.

Welcome back to The Agent of Wealth Podcast, this is your host Marc Bautis. On today’s show, the Bautis Financial team is here to discuss the book, Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism by George Akerlof and Robert Shiller. Kayla, you picked this book for the fourth installment of our Book Club. I’m going to turn the discussion over to you to lead. Can you start us off with a summary of the book and why you picked it.

Kayla:

Thanks, Marc. The authors of Animal Spirits are George Akerlof, a Nobel prize winner, and Robert Shiller, a Yale professor. In the book, they discuss how human psychology drives markets. The book came out right after the 2008-2009 financial crisis. The term “animal spirits” comes from John Keynes, who was an economist during the 1930s right after the great depression.

Keynes used the phrase to describe how people don’t always behave in the manner that’s predicted. I think that a quote from the book that sums up this concept is, “People have non-economic motives and they’re not always rational.”

In the book, Akerlof and Shiller argue that traditional economic theory places too much weight on the quantifiable facts – or numbers – and not enough on human emotion. They also emphasize the importance of governments intervening to control using economic policies.

The book is broken up into two different sections. In the first, the authors go over the five main animal spirits, which are confidence, the desire for fairness, corruption, money illusion – which has to do with inflation – and the importance of stories.

In the second half of the book, the authors discuss eight different questions about the economy. Some of the questions that they address are:

Why do recessions happen?
Why do we have central banks?
What are the tradeoffs between unemployment and inflation?
Why people don’t always consider the future rationally?

I picked this book for the Bautis Financial Book Club because I wanted to take a deeper dive into behavioral finance. As financial planners, I think it’s important for us to remember that everyone sees money and the world differently. I know Marc, John, and Kyra, we have conversations about that every week.

Marc:

Yes, and I think it’s timely. We’re two years into a global pandemic where everyone’s emotions are running high. We’re also amid the first land war – basically since World War II – in Europe, and people’s emotions are obviously tied to that. So I think a lot of us get caught up in the quantitative analysis of what we do, but the emotions and psychology are just as important to understand. So where do you want to start?

Kayla:

I’ll start with my first question for Kyra. Did you have any prior knowledge about behavioral finance before reading the book?

Kyra:

So for those listening, just to give you context, I am the only person on the team that does not have a professional background in finance. I’m the Marketing Specialist at Bautis Financial, and my background is definitely geared towards marketing. I’ve never taken any educational courses in finance – economics, macroeconomics, etc. So on the surface, I would say, no, I don’t have any prior knowledge about behavioral finance.

That said, at Bautis Financial, we have a variety of different content we produce on our blog, YouTube channel, and otherwise. Both Marc and John have touched on behavioral finance in that content before.

So indulging in that content and sharing it out to our audience, I do have some basic knowledge of behavioral finance, but it’s pretty basic.

Kayla:

Reading this book without a finance background, did you have a hard time? Was it easier to understand as you got through it?

Kyra:

I would say the first two chapters weren’t so challenging… but eventually the book got to a point where the authors were referencing terminology or events that I didn’t have basic knowledge about. I’d have to look things up, or try to understand the references by the context. While it was challenging, I still understood the main takeaways of the book.

Kayla:

There were a lot of details in there. My next question is for Marc. The first half of the book is outlined into five different aspects: confidence, the desire for fairness, corruption, money illusion and then the importance of stories. Which one of those stood out to you the most?

Marc:

I’m going to cheat here and give you two. The first that jumped out was fairness. The authors shared the story of a hardware store raising the price on snow shovels before a snowstorm. In some ways, you can equate that concept to things happening in the economy right now, such as the price of gas. But from the economics’ point of view, that’s the law of supply and demand. If there’s a demand for an item, you’re able to raise the price of it. But the authors discuss that most people believe in fairness, so they don’t like when things like this happen.

The topic I liked even more was money illusion. The authors give the example of a person who has a $50,000 bond portfolio. They look at that portfolio and believe they have $50,000, plus any interest that comes in. But they don’t take inflation into account… So it begs the question: What can $50,000 buy if inflation goes up? The reality is it gets you a lot less. That’s a concept we can apply to today’s times.

Kayla:

Yeah, definitely. Both of those stuck out to me, too. As I was reading, I was thinking of real-life examples. Things I’ve witnessed myself. For fairness, I was reminded of the time I was a DoorDash driver. In college, I’d deliver people food for some extra money. When it was raining, or there was bad weather, DoorDash and Uber Eats would hike up the prices. It’s on their website that they do this. But if consumers actually realized they do this, I wonder if they’d argue if it’s fair.

Marc:

Yeah. You really have to think about it from a supply and demand perspective. If the weather is bad and you don’t want to go out to pick up your own food, there’s more demand for a delivery.

Kayla:

And It was good for the drivers, because the potential to earn more can get you out driving.

Marc:

Exactly. I know that’s what Uber Eats and DoorDash have said about the policy – that they’re not trying to price gouge, they’re trying to bring more drivers out. Because the drivers are in the same boat as the consumers. When it’s raining or snowing, they don’t want to be driving either. It incentivizes them.

Kayla:

Yes. Marc, were there any quotes that you liked from Animal Spirits, and why?

Marc:

A couple of quotes that stuck out. One of them wasn’t a quote by the authors, but on the subject of confidence, they share one of Jack Welch’s quotes. He basically said he has little use for rational, analytical business plans and projections. He said he made his major business decisions “straight from the gut.” I know Welch’s leadership style can be polarizing to some, but it goes to show that everything isn’t quantitative.

Then the subsequent example they give is about the 2008-2009 financial crisis. The authors say it was really a crisis of confidence. Banks didn’t think loans were ever going to be repaid, so they stopped making them. This basically brought the economy, or the financial sector, to a halt.

So confidence is really important. With the people we work with, we see both sides: overconfidence and lack of confidence. Both have an impact on how people react.

Kayla:

I remember one of the biggest takeaways in the beginning of the book is that understanding confidence leads to understanding the economy.

My next question is for John. Do you think that incorporating animal spirits into the study of macroeconomic theory would be a more realistic depiction of how the world works?

John:

Well, my answer is yes and no. I think there’s certainly a place for quantifiable facts, as you guys have already mentioned. In studying macroeconomics, there’s certainly a place for that. But it’s hard to argue that there isn’t a place for animal spirits in that conversation as well.

The problem is that animal spirits are hard to quantify. For instance, if you have a graph of supply and demand, how do you add this factor of animal spirits to that conversation? I don’t think we’ll ever be able to quantify it. And not just quantify, but because we’re so complex as humans, it’s almost like predicting the weather.

A lot of it has to do with all of the layers that exist in the economy, but we’re also just so complex as humans. We have emotion and rationality.

For instance, if there is a time where there’s high confidence, maybe there should be a measure of what the confidence is. I do think we need to take some of what we’ve learned about human behavior and give it serious consideration when we’re looking at the numbers.

Kayla:

Definitely. That’s a good point because throughout the book, the authors mainly explain why animal spirits are important, but there was no real solution.

Kyra:

Yes, I have this written down: “The economy doesn’t always function rationally, and if we had factored turbulent emotions into economic theory, we might not have boom-bust cycles.”

But how would we factor that in? Because that’s why animal spirits have that animalistic aspect. It’s something I was wondering as well.

Kayla:

That brings me to my next question for you, Kyra. Were there any parts of the book that you disliked or disagreed with?

Kyra:

There wasn’t anything I disagreed with, but that’s because I don’t have a knowledge base of the subject to inform a disagreement. This was more of a knowledgeable experience for me, and I enjoyed learning through reading the book.

Kayla:

Makes sense. John, did anything in the book surprise you?

John:

What surprised me is related to the last question you had for me. It surprised me that some economists take the numbers so literally. I think some get caught up in the numbers and don’t consider that there’s so many complexities about us as human beings.

For instance, there’s social differences between people in different areas across the country. I live in Florida, and during the pandemic, it was amazing to me how different things were in the Northeast than they were here. The mentality was very, very different.

When you take a macro approach, it’s foolish to not consider that. Looking at the numbers only takes you halfway.

The second part of this is how the same numbers can have different political interpretations. It’s no mystery that we are drawn to the things that we want to believe. Throughout the book, there’s this push and pull between Freeman and Keynesian – or other competing economists in the conversation. And there’s almost a political drive between the two of them.

Oftentimes, it feels like a conclusion is drawn, and then they are left looking for the numbers that’ll support that conclusion. Throughout the book, it was apparent to me that there’s these two teams playing against each other and constantly disagreeing.

But, at the end of the day, numbers are numbers, and the numbers don’t lie. I think that solidifies my first point.

Kayla:

I think you hit on a lot of my thoughts, John. There was a political element to the book, as it went on. These politicians have their own animal spirits, but I don’t really think the authors mentioned that.

John:

No. And it’s a shame, really, because we should be pulling both sides together. Because I do think that there is truth to both Freedman and Keynes’ ideas.

Kayla:

All right. Those were all the questions that I had for you guys. I’ll let you wrap it up, Marc.

Marc:

Before I wrap it up, I’ll ask you a question. Was there anything that surprised you about the book?

Kayla:

Not to steal John’s answer, but I was surprised by the political aspect that came through at the end. The book was really divided into two sections, and I enjoyed the first half much more. I was surprised that my interest fell off by the second half.

Marc:

I think the book is 10 years old now. Do you think the principles still hold true to what you see in today’s economy?

Kayla:

Some of it does, but I think we need to continue to consider animal spirits moving forward. The book was written during The Great Depression, then rewritten during The Financial Crisis. These were times when human emotion was at an all-time high. I think it’s important to consider that. But I do think that there is truth to both sides, like John was mentioning.

Marc:

So Kayla, thank you for hosting today’s episode. If any of our listeners have a suggestion for the next book in our Book Club, please send it in. Otherwise, I will select the next read.

Thank you to everyone who tuned into today’s episode. Don’t forget to follow The Agent of Wealth on the platform you listen from and leave us a review of the show. We are currently accepting new clients, if you’d like to schedule a 1-on-1 consultation with our advisors, please do so below.