Why the Invisible Hand from Biology is Better Than the Invisible Hand from Economics

The notion that economics and business are all about competition and self-interest is alluring but wrong

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By Mark van Vugt

The global financial crisis has shaken the foundations of a long-dominant paradigm in economic theory, Homo economicus. This is the idea that individuals and firms make informed, rational judgments about risks and opportunities so as to maximise their pay-offs. The crisis has sparked the search for more accurate and scientific models to explain how people and firms behave in real life, and how financial markets do, and should, operate.

Bankers, hedge-fund managers, and policy-makers are human beings, so the common-sense idea that human nature might have something to do with their decision-making is taking hold among the wreckage of confidence in the current system and models. Together with a broader community of evolutionarily minded biologists, economists and psychologists, I argue that new light may be shed on the foundations of economics and business from an unlikely source: evolution.

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Competition between firms has often been portrayed as a Darwinian struggle where stronger firms survive and prosper and weaker ones die out. This idea has eminent origins in the work of economists such as Joseph Schumpeter and Milton Friedman, and has been recently revived by the British economic historian Niall Ferguson, who wrote in 2007 that “left to itself, natural selection should work fast to eliminate the weakest institutions in the market, which typically are gobbled up by the successful”.

Bosses are keenly aware of their cut-throat environments as well. When the Android phone emerged, threatening the iPhone’s market dominance, Steve Jobs pledged to wage “thermonuclear war” on his competitors and destroy them. But evolutionary science has moved on a lot in recent decades from the simplistic idea that nature is “red in tooth and claw”. A modern evolutionary perspective suggests the picture is a little more complex.

It is true that the basic Darwinian principles of variation, selection and retention can be invoked to understand the survival of different firms. Although not a purely Darwinian process – due to mitigating factors such as government regulations – the predictions have proven alluring to many economists. That’s because at first sight they bolster three pillars of neoclassical economics: one, that economic actors are self-interested; two, that self-interest leads to public goods (the famous “invisible hand” coined by the father of modern economics, Adam Smith); and three, that together these lead to market optimisation. However, applying this clichéd Darwinian reasoning leads to a paradox: firms are by definition groups of individuals, and therefore competition between firms implies selection among groups, not individuals. This undermines the three pillars above and instead predicts the emergence, at the individual level, of pro-group “altruistic” behaviour instead of selfishness.

Fortunately, a 21st-century understanding of evolutionary biology offers a way out of this paradox. The key is multilevel selection theory (MLS), which recognises that natural selection can operate at multiple levels at once and so provides a more realistic picture of how firms and their employees behave in a competitive market. The core idea is that while individuals may indeed pursue their own self-interest, they also have a suite of evolved psychological adaptations that – as if led by an invisible hand – steer their self interest to align with the good of their firm or even their wider society. But it is the hand of Darwin, not Smith.

MLS is increasingly accepted as a fundamental principle in evolutionary biology. It is essential for understanding the “major transitions” in the evolutionary history of life – the formation of multicellular organisms from groups of cells, for instance. MLS allows us to examine two often-opposing forces simultaneously: the interest of the group/firm as a whole, and the interest of individuals within the group/firm. These two forces are in constant interaction, generating complex outcomes, but these outcomes can be predicted given knowledge of evolutionary processes and psychological adaptations.

MLS generates broad predictions for what kinds of economic behaviour will emerge in different environments. Where selection among firms (that is, group-level competition) is severe, we can expect an increased alignment of interests between organisation and employees, resulting in highly efficient firms with committed workers and low absenteeism and turnover rates. At the extreme, we might see an increase in unethical practices at the firm level such as hostile takeovers, talent-poaching and misinforming customers or regulatory authorities.

On the other hand, where selection among firms is weak, we expect a rise in inefficient firms with uncommitted workers, high rates of absenteeism and voluntary turnover. Here, as group selection is weakened, individual interests will rise to prominence. At the extreme we might see a rise in unethical practices within firms, such as individual fraud, theft, and work-place aggression.

We can also make detailed predictions for what kinds of economic behaviour are likely to emerge from different individual employees. An appreciation of MLS, in combination with empirical findings about our evolved psychological dispositions, allows us to specify conditions under which more selfish or more pro-organisation traits tend to be expressed. These predictions enable firms, managers, and society to design corporate cultures that encourage the expression of the most productive and cooperative instincts that human nature has to offer.

Unlike the classic rational-choice model, which assumes that individuals are guided only by how to maximise their own pay-offs – often at the expense of others – MLS predicts that employees will also be concerned with non-economic social pay-offs such as status and prestige. This is supported by a wealth of findings. Employees work harder, for example, when they perceive that they are being treated fairly, receiving the same rewards as others for the same effort. If, however, employees perceive that co-workers are free-riding with impunity, they will lose commitment and withhold effort. Similarly, workers will be more motivated if their good citizenship behaviours are appreciated in a reputation-enhancing way. A good reputation turns out to be at least as rewarding as a good salary, according to neurological research.

MLS also makes predictions about leadership styles. For instance, when competition between firms is fierce, and competition between co-workers relatively weak, then a more democratic and participative leadership style is likely to ensue. Simply put, people unite behind a shared purpose.

These are just some of the novel insights about the behaviour of businesses arising from a modern evolutionary approach to economics. This approach is an important addition to the field of behavioural economics – a quest to understand economic decision making from a psychological perspective. The fact that people work at all may lie primarily in the selfish motivations of employees, as Adam Smith recognised, but there will often be a vast area of common ground in which the interests of individual employees converge with those of their firm and the wider society. But the hand that guides humans to help each other by helping themselves appears to be the result of evolution – not Homo economicus.

The key to designing effective organisations is not to strike some (inefficient) compromise between the entrenched interests of individuals and their group, but to work with the grain of human nature to bring individual and organisational interests into alignment.

The first step is to appreciate that humans are imperfect products of evolution, not rational utility maximizers. We might like to think we are rational even if everyone else is not. But even if that were the case, playing rationally in a game with madmen is madness itself. This may have been a key underlying cause of the financial crisis that devastated our economies and wallets over the last few years. As John Maynard Keynes observed: “There is nothing so disastrous as a rational investment policy in an irrational world.”

Originally published here at New Scientist

2016 November 25

Mark van Vugt of VU University, Amsterdam, and the University of Oxford specializes in evolutionary psychology and business. This article sprang from a paper he co-authored with Dominic Johnson and Michael Price entitled “Darwin’s invisible hand: Market competition, evolution and the firm

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