Prices and knowledge: A market-process perspective

‘Bounded rationality’ and the price system 69agents build simplified models (‘heroic abstractions’) to deal with thesituations in which they find themselves. This makes Simon(1956:278) adopt the familiar distinction between subjective andobjective rationality: he defines the former as ‘behavior that isrational, given the perceptual and evaluational premises of thesubject’, and the latter as referring to ‘the rationality of theperceptions themselves (i.e. whether or not the situation as perceivedis the “real” situation).’ Although individual behaviour may besubjectively rational, he argues, the complexity of the world imposesa need for simplification that makes it very unlikely that it will beobjectively rational. 16An agent can be said to be optimizing with respect to hissimplified model, but ‘such behavior is not even approximatelyoptimal with respect to the real world’ (Simon 1957:199). This lackof optimality can apparently occur in two respects: (1) the actor willnot be able to encompass the whole set of relevant variables, and (2)given the limited amount of information that he can handle, there isno assurance that he will take into account the most profitableportion of reality (as a neoclassical agent who had to allocate hislimited attention optimally would). 17 To emphasize further that he isnot talking about optimal simplifications by individuals, Simonobjects to their being described as ‘approximations’ or the agents’perceptive mechanisms as ‘filters’:The term ‘approximation’ implies that the subjective world of thedecision-maker resembles the external environment closely, but lacks,perhaps, some fineness of detail. In actual fact the perceived world isfantastically different from the ‘real’ world. The differences involveboth omissions and distortions, and arise in both perception andinference. The sins of omission in perception are more important thanthe sins of commission. The decision-maker’s model of the worldencompasses only a minute fraction of all the relevant characteristics ofthe real environment, and his inferences extract only a minute fractionof all the information that is present even in his model.Regarding the term ‘filter’, the type of filtering that actually occurs isan active process involving attention to a very small part of thewhole and exclusion, from the outset, of almost all that is not withinthe scope of attention.(Simon 1959:306–7; emphasis added)