Departures from Standard Rational Choice Models (With and Without Regret

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CHAPTER 7: Departures from Standard Rational Choice Models (with and without Regret)

Chapter 7

Departures from Standard rational choice models (With and without regret

Boiling Down Chapter 7

Rational choice theory is frequently thought to focus exclusively on egoistic behavior or "narrow self-interest" as your text calls it. This assumption of narrow self-interest makes it difficult to explain altruistic behavior. We are left with two choices. Either redefine tastes to include self-sacrificing behavior as something that is desired for its own sake, or show how what appears to be self-sacrificing behavior really benefits the consumer in ways that are rational rather than masochistic.

The text takes the latter approach, beginning with the realization that people who are perceived to be highly egoistic do not fare well in many circumstances. Furthermore, to be perceived as being an altruistic person, one must actually be one because true altruism is hard to fake. Therefore, to be truly altruistic, people must practice it until it becomes part of them. Thus tipping waitresses you will never see again or engaging in voluntary service of all kinds are all rational parts of becoming the kind of person who can reap the benefits reserved for those who are truly altruistic. Religious people might say that the temporal and eternal blessings of being a servant of others far outweigh the costs of religious practice. Your text suggests that for many, the temporal benefits themselves may be sufficient to create true altruistic behavior in people.

The story of Franny's preferences shows that she genuinely cares about Zooey and can benefit by sharing with her if Zooey is poor. This example illustrates that rational choice theory can be richer if it is recognized that people are social beings with high levels of interdependency. How you act depends upon how others react to your behavior. In a way, this chapter has parallels with Adam Smith's concept of moral sympathy, which makes social approval something that nature predisposes us to desire.

Biologists have contributed to the discussion by showing that, over time, aggressive competition leads to lower payouts than cooperative behavior. Thus by natural selection it may become prudent to alter narrow egoism. But how does one convince others that they are not short run egoists? Building trust is a complex process so part of this chapter deals with how trust and cooperative behavior can be recognized. Psychologists have found that simple body expressions tell a lot about one’s underlying motivational states. One way to build trust is to develop a reputation by acting consistently in a manner that is counter to rational choice predictions. If the behavior has been observed as a pattern, others will come to believe that this behavior can be expected and they will act accordingly. A second way to build trust is to make it known that certain values guide one's life and will be pursued irrespective of normal self-interest motives. The notion of fairness and virtue will become part of who a trustworthy person is. Such a person will sacrifice personal gain for justice and therefore will be victim to fewer one-sided offers as illustrated in the $1000 exercise in the text. Those who fake trust, but then cheat, stand to benefit in the short run until repeat transactions occur or until the word of their cheating tendencies becomes public. How trusters and cheaters interact and survive in a population is the subject of considerable discussion in this chapter. If there is a cost of discerning between the two types, there will be a place in the population for both trustworthy folks and cheaters. This is true because when the trustworthy types become dominant in the population because of their cooperative behavior in joint ventures, their guard against cheaters goes down and cheaters can take advantage of this reduced vigilance. When the expected value of gains from a randomly chosen partner exceeds the net return of searching for another trustworthy partner, then the cheaters will have a permanent niche in the population..

In the final analysis, people make choices based on the complete range of emotions, some of which run counter to the pure self-interest model. People do respect each other's rights even when they would gain by not doing so. They vote when the cost of doing so exceeds the benefits. They give up money in order to enhance their view of fairness. In fact, conscience, envy, love, honor, guilt, loyalty, and many other emotions impact all choices to some degree, and it is wise to understand how this fact can enrich standard rational choice theory.

It is important to realize that after all the commitments are made and all the emotions are assessed, non egoistic behavior will only work if the altruistic behavior is heartfelt. Fake altruism can not be hidden for long. Cultivating behavior that makes altruism heartfelt is part of what it means to be moral.

In addition to emotions and values, nonegoistic behavior results from certain psychological tendencies that program behavior. Bounded rationality means that people have certain patterns of thinking that restrict careful analysis. The moviegoer counted the $10 lost ticket as part of an entertainment budget rather than as part of general funds and therefore did not use the next $10 on the most desired purchase, another movie ticket.

Asymmetric value functions mean that people suffer more from a loss than they benefit from a gain of equal value and that they separate events that should be taken as a package. Rational choice theory allows for no such separation. Nevertheless, people frequently separate joint events as the medical insurance case in the text illustrates. This asymmetric value function also helps explain cases in which people make choices under risk that do not fit the anticipated expected value conclusions. Marketers take advantage of this phenomenon by bundling costs in one package and separating related gains as if they were separate events.

Sunk costs are frequently considered in decisions when they are irrelevant. Out-of-pocket costs are felt more keenly than opportunity costs that do not require a dollar outlay. Consequently, gifts, winnings, and capital gains hurt less if they are dissipated than the dissipation of the same items that were paid for with out-of-pocket costs.

Bad decisions occur when we misjudge how current decisions impact the future. It is particularly hard to judge how experiences will be valued over time. A large screen TV may be chosen over a week vacation with family or travel abroad, but good memories are frequently undervalued at the point of decision. A lifetime pattern of growing consumption is preferred to a constant standard of living so saving early should be preferred to higher early consumption that is steady over time. However, earlier saving is often not the pattern. It is hard to make good choices when our minds do not give us a good perspective on how those choices will feel in the future.

Another bias that influences rational reasoning is our tendency to give more weight to recent or available information rather than to objectively consider the entire spectrum of data that is relevant.

In some cases we are influenced by our stereotypes, which can be misleading. Shy people are likely not librarians even though most librarians may be shy. Although stereotypes can lower our search costs of information, they can lead to erroneous decisions in many cases. The regression effect illustrates a similar problem. Since most performance measurements are distributed around a mean value, it is likely that an extremely good or very poor performance is an exception that will not be repeated. This is why phrases like “sophomore jinx,” “champions don't repeat,” and “wait until next year” are not utter nonsense. Nearly every peak accomplishment or disastrous act is on an extreme end of a distribution, and a regression toward the center, or mean, is likely to follow.

Another bias that distorts sound rational reasoning is the tendency to rely on initial data more heavily than on all data that are available. This “anchoring and adjusting” is what is behind a phrase like “first impressions count most.” The most powerful example in your text of this effect is the manner in which random numbers influenced student estimates of the percentage of African countries that are United Nations members.

The psychophysics of perception causes people to consider data according to their relative size rather than their absolute size. I get more irritated at a $20 increase in the city parking sticker tax than I do when the IRS informs me that I owe $20 additional income tax. This is because $20 is such a small part of the total federal tax but is a doubling of the city parking tax. Yet, I know that it really does not make any difference in my financial situation.

Given all these influences on choice plus the principles of rational decision-making, people are often in a quandary over which choice to make. Faced with an apparent toss-up, sometimes an irrelevant factor tips the scales and becomes the deciding influence as the story of the apartment decision illustrates.

Finally, rational behavior is sometimes subverted by an inability to follow one’s best intentions. Self-control is not always easy without effective commitment devices to hold one to his intentions. Weight watchers, payroll deductions to savings plans, and not buying food that is unhealthy but tempting are all ways of seeking to make rational choices effective.

Chapter Outline

1.  Present-aim rationality is too broad and self-interest rationality cannot explain behavior where habit, passion, and appetite are involved.

2.  The pursuit of rational choice self-interest does not always bring the greatest rewards.

a.  Where interdependence and trust are present, the rewards of altruism and cooperation may be greater than the rewards of narrow self-interested behavior.

b.  Franny gains pleasure from seeing Zooey’s income increase.

3.  Biologist show that survival is enhanced when cooperative behavior prevails.

4.  A model of trustworthy people and opportunists illustrates the tenuous balance in society between the two groups.

a.  If trusters could always find each other they would benefit by cooperating.

b.  But cheaters can mimic cooperative behavior and take advantage of trusters. Because detection costs will be positive both preferences will exist despite the common rational choice notion that tastes do not differ.

5.  Emotions sometimes lead us to behavior that seems irrational.

a.  People sue others when the costs exceed any possible gain because of the emotion of anger or injustice.

b.  Many people vote in elections when the costs exceed the benefits except for the pull of patriotism.

c.  People will give up absolute income to preserve relative income standing.

6.  In short, some identifiable tastes based on emotions of all kinds can lead to advantages that opportunists miss, but those who benefit from the exercise of altruism and emotion must inevitably hold their preferences sincerely.

7.  Bounded rationality suggests that humans muddle through decisions using partial information, with limited perspective and with psychological biases that lead to satisficing rather than maximizing.

a.  People organize spending into mental accounts rather than treat money as fungible.

b.  An asymmetric value function causes gains and expected gains to be assessed as less helpful than the same loss or expected loss would be harmful.

c.  Sunk costs are frequently considered when they should be ignored.

d.  Cash costs are considered more significant than implicit opportunity costs even though rational choice thinking would consider them the same.

8.  It is difficult for someone to forecast how a choice will impact their future.

a.  The impact of goods is easier to predict than the impact of experiences.

b.  Current consumption patterns often ignore the impact that a lack of savings will have on the future.

9.  Choices under uncertainty frequently are influenced by how the outcomes are framed rather than by the expected value calculations.

10.  Judgmental heuristics and biases condition behavior in ways that rational choice theory would not predict.

a.  People act on things they can recall best, which means events that occur often or more recently.

b.  Representativeness or stereotyping leads to mistaken conclusions.

c.  Regression to the mean suggests that outstanding or very poor behavior is likely to be followed by more average behavior.

d.  The anchoring and adjustment perspective leads people to weight initial data more heavily than subsequent information.

11.  The psychophysics of perception causes people to consider gains and loses as percentages of the total rather than as absolute gains and loses.

12.  When deciding is difficult, it is sometimes helpful to introduce an irrelevant alternative to achieve a halo effect.

13.  Using commitment devices to offset a lack of self-control can help to make the rational good choice succeed over the temptation to do otherwise.

Important Terms

commitment device mimicry

cheating problem altruistic preferences

deterrence problem bargaining problem

bounded rationality segregated gains

fungibility of wealth judgmental heuristics

mental accounts regression effect

asymmetric value function anchoring and adjustment

sunk costs psychophysics of perception

out-of-pocket expenses Weber-Fecher law

affective forecasting problems halo effect