Behavioral Economics, Rational Inefficiencies, Fuzzy Sets, and Public Policy

There is an empirically based premise that neoclassical assumptions about the optimality and efficiency of economic agents in the sphere of production are wrong. According to neoclassical assumptions quantity and quality effort inputs are maximized at all points in time, that is the firms are x-efficient in production. However in the model presented here it is possible for both efficient and inefficient firms to survive in even a competitive product market. The choices of individuals, which are rational and intelligent, underlying the relative efficiency of a firm critically depend upon the preference of the firm's economic agents and institutional parameters. The power relationship among workers, managers and owners can have a long-run effect on efficiency. Therefore there need not be a convergence between low-wage and high-wage economies. This model can also explain why labor market discrimination can persist and how ethical and moral behavior is realizable in competitive product markets. Moreover, ethical behavior can yield in higher levels of efficiency as well as higher wages and less discrimination. The behavioral model presented here allows for a multiple equilibria or a fuzzy set solution to the choice set afforded to economic agents in the fundamentally important domain of production. This has important implications for public policy and deviates from the neoclassical model which suggests that no public policy is needed to reach efficiency