Back in the 1980s, when the efficient market hypothesis was fully believed, Mehra & Prescott in their paper "The Equity Premium: A Puzzle" (1985) analyzed the origins of the rate of return premium that equities command over other asset classes. Their mathematical model predicted a premium of only 0.35%, which was clearly much smaller than the empirically observed 6% to 7% for U.S. stocks in the 20th century. Later, behavioral economists explored psychology-based explanations for the risk premium. They studied the effect that seeing losses frequently, versus seeing them less often, had on experimental subjects. Their findings were that people who see frequent updates of portfolio results tended to be more risk averse. Some these results were published in papers, including for example "The Effect of Myopia and Loss Aversion on Risk Taking: An Experimental Test" (1997) by Thaler, Tversky, Kahneman, Schwartz. Sensing pain from immediate losses has evolutionary survival value. Acting to cut the loss provides a benefit. This is normal if baking a pie, but if investing, it's risk aversion.
The lesson might be applied to other areas of human experience that involve repeated interactions, possible deferral of benefits, and gains and losses. For example, social media. Social media is an investment of reputation, and "clan values". Negative feedback is sensed as a loss, and crisis needing action. "Negative feedback" in this case is not necessarily directly negative feedback, like someone insulting you. It could simply be postings by others that tend to injure your position politically, economically, or religiously. A popular post by an "opponent" then results in a threat to your future return on your investment in society as a whole. In the past, before the advent of social media, interactions with strangers and their opinions about politics and religion was much slower and it took much longer to get feedback from the world. Instead of instant and hourly feedback, checkable at any time, people would get news daily, and they would have to wait for it.
Hence, if we believe Thaler et al, then social media likely causes risk aversion among people who engage heavily with it.
What does that mean? It's known that the excesses of the recent decade, including intoleration of speech on college campuses, claims that people are "injured" by words they don't agree with, and similar social phenomena, may have their origin in social media and the wide availability of the smart phone. John Haidt and Greg Lukianoff explored these ideas in their book Coddling of the American Mind. The degree of damage and its perniciousness was highlighted by the Netflix movie "The Social Dilemma." Risk aversion is manifested by the unwillingness to tolerate the speech or view of others. People view their original commitments and feelings as a baseline that should not be changed.
If this article were about social justice, conformity, and political endangerment of the innocent, it would be much longer. You can go on Twitter and YouTube and find many stories and instances of cancellation that fully justify the reticence of those desiring to avoid losses.
Instead, this article is more about embarking on a cross-disciplinary exploration: If myopic loss aversion explains the equity risk premium, which is a very powerful phenomenon, what other aspects of mass human behavior also fit that psychological model? Social media may just one of several. Although some have viewed social media as a corporate problem, a legal problem, or a technological problem, the problem may be inherent to people. Social media just "wakes up" the perniciousness that was always lurking.
If such is the case, then we already have some political economy theory already waiting to help frame how we can distribute remedies. I return again to Thomas Sowell's A Conflict of Visions (review here). The constrained vision see mankind as, at best, only slightly changeable, and subject to a number of fairly predictable limitations. Political beliefs that go with the constrained vision tend to be those that use long-established rules of thumb and consequent laws; these are usually labeled conservative. Mankind has a long history of living with clans, families, and towns, observing religion, caring for one another. We have a great deal of wisdom (including internal, built-in moral sentiments) for handling these. We have no history of handling high-speed electronic communications avalanches and contentious conversations with strangers.
Hence, if you have more of the constrained vision as your beliefs about what people can do, you will advocate for limitations on social media until we figure out how to tone it all down and make it less toxic. If you are of the unconstrained vision, and believe people can be changed, then you will likely have faith that people will quickly adapt to our brave new electronic world. That makes the battle to solve social media a political battle as well as psychological, emotional, and technological. The medium itself might even be used to lengthen the arguments so that one side can win.
Since this is a large topic, it will not be solved in a single article. I will likely post other articles later that address parts of what I covered here, including other resolutions to the equity premium puzzle, and other applications of myopic loss aversion. I welcome your comments and thoughts.
