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  • Antal Ertl

The Economics of Racism

In the recent weeks, racism has been on the headlines, and each time we have to realize how seriously harmful the situation is. We could write about a number of things regarding racism. For example, we could cite papers which found that the more intelligent you are, the lesser the chances that you will be racist; however, there are a number of problems with these assessments. Firstly, they could be misinterpreted, and such papers could be found to support either of the ‘agendas’. Secondly, it is counterproductive – informing some of such evidence simply will not stop racism. Thirdly, and perhaps most importantly, it’s such a complex issue, that one cannot possibly grasp the entirety of the matter. We do not aim to shed light on all the faults of society: from ethical issues to problems regarding moral relativism throughout the history of slavery and racism is something that cannot be cut in half, like the Gordian Knot. 


1. Racism as distorted heuristics: identity economics and stigmatizing


First, we need to assess the origins of racism. Sociologists and psychologists keep examining the question whether we are born racist, or it’s something we learn. This raises the question whether racism is a social or a biological construct. If it is the latter one, we might have a harder time tackling it, while if it is a completely social function, great effort and educating ourselves on these “norms” could lead to progress in the foreseeable future. Research shows that we have an innate tendency to make group-based distinctions (see our previous blog entry), particularly, in the form of “us” and “them”. This evolutionary behavioural tendency appears from our past. In tribal culture, groups comprised of loyal members succeeded more often than groups comprised of non-loyal members, leading to a natural selection process in which the human mind has been sculpted to be tribal. Yet, group cooperation is a double-edged sword, as it implicitly implies that there is a tendency to be hostile towards other groups.


As such, racism could be interpreted as a textbook-example for in-group favoritism, where we become more receptive towards those who belong to the same group as we do, while disregarding – or, in certain cases, taking a stance against – the ones we do not associate with. This, however, does not necessarily explain the notion of being predatory towards only certain groups, and not all of them. Why do we like one group, and hate the other? That is where the social context comes into the picture. This could be influenced by a number of things, may that be cultural, religious, or relating to any sort of value differences. Most of these can be traced back to past experiences – personal, or even historical differences among groups – similar to what Romeo and Juliette were forced to face.


Ergo, although racism has its roots in our past, it is also a social construct. Essentially, we are born with an ingroup bias, but the fact that we are not acting hostile against every other group emphasizes that as we get more social, our preferences – and therefore our disposition towards the other group – are adjusted in a selective manner. 


2. The irrationality of racism – how it limits our “playground”


As Adam Smith said: “Every nation lives by exchange” – may it be exchange of articles, ideas, goods or services. In institutional economics, institutions are defined as the “rules of the game”: any factor that restricts these rules, may that be formal rules set by the government, or informal institutions in play in smaller communities. It’s important to note that these institutions – while restrictive of our ground of play – are incredibly useful, as they reduce uncertainty during our conduct of action. When in traffic, you do not need to think about whether it is your turn to go or not – the green light signals to you that it’s safe for you to drive on. 


One could argue that racism is such an institution; yet, nothing could be further from the truth. Institutions are there to help coordinate decision-making. Appealing to one’s gender, race, or religious affiliation does not have this property; rather, it is a generalizing, heuristical way of thinking, which is vulnerable to representative bias, selection bias and availability bias, to name a few. Consequently, not only does it reduce the number of potential transactors, it also signals false probabilities. Every transaction that is lost due to the presence of aforementioned in- and out-group preferences is detrimental to the economy, having a deadweight loss as the economy is not in its optimal state. Such distinctions could also undermine trust between economic transactors, which was shown to be a relevant factor in the economy, as it lowers transaction costs – while still being a crucial factor for all democracies. That is why Eurostat, PEW Research Center and the World Values Survey also conduct research in the field.


Another topic to elaborate here concerns the impact of in-group bias on the job market, referred to as favouritism in the literature. Within the labour market, it is not uncommon to observe that jobs, contracts, and resources are offered to one’s social group at the expense of other, outside groups. From an economical perspective, favoritism entails costs as it usually leads to inefficient allocation of resources. This phenomenon is most common in family-owned enterprises, since people at higher level positions in these businesses are usually chosen based on social relations. And do not let us go into politics, where as we all know, favouritism, instead of meritocracy, is the primary factor to get into the White House, implying that in-group bias is rampant, having an indirect effect on all of us. 


While it sounds odd, diversity programs at big companies may not be the solution, as it is just going overboard on in-group favouritism. Taking this approach, the problem associated with not hiring applicants based on their qualifications still persists – and so does hiring based on the colour of one’s skin. In economic terms, it is still not the most efficient way of hiring. One might argue that different backgrounds entail different ideas, leading into enhanced creativity. But shouldn’t the way of thinking be a merital factor? 


3. Race preferences and the changes in neighborhoods


We can put a spin to this whole thing and say: what if there is no such thing as racism (which in itself is irrational and oversimplifying), but rather if there is a preference for races? This is not an unusual thought: we like to surround ourselves with people who are much alike us from a certain point of view, may that be religion, core values held, social standing, and race. Rich people do not really like to live close to poor people. The same thing can be said to followers of opposing religions. Race is no exception. 


Have you ever wondered why certain groups have a tendency to live in certain neighbourhoods? This idea of how neighborhoods change originates from Thomas Schelling. Consider a neighborhood where every person has a preference on what proportion of their own race (or political or religious affiliation, mind you) should inhabit the surroundings. We cannot say that white people prefer their neighborhood to consist of at least 50% whites (although certain agent-based models would operate so); however, we can deal with individual preferences: some prefer the neighbourhood where 80% of the population is the same race as them, while some prefer it to be 75%, 70%, 50%, etc. Some, however, have no preference over race. This is very interesting if we want to look at the dynamics of a given area: in the beginning, there seems to be a stable balance. Later on, slowly, those who have no preference may start moving from the neighbourhood. When we hit the threshold of the proportion of given race  (in this situation being 80% or less), we arrive at the “tipping point”, where the number of families moving out from the neighborhood grows exponentially. First, the families with 80% threshold move out, then the ones with 78%, and so on.


Note that this example does not imply racism (strictly speaking), only race preference. However, with some adjustments in this “agent-based model”, we can set the rules for discriminating neighbourhoods, as well. After a few turns of play, you could model how the neighbourhood changed, but also you could analyze each dweller’s situation, and how happy and content they are when considering the race of their neighbours. One implication is almost certain: if you put race as a priority to your choice of dwelling, you might not have a content life in the long run. 


References and Further Readings


Stangor, C.: Principles of Social Psychology – 1st International Edition, chapter 11, Stereotypes, Prejudice, and Discrimination.


Tajfel, H., Billig, M., Bundy, R., & Flament, C. (1971). Social categorization and intergroup behavior. European Journal of Social Psychology, 1, 149–178.







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