Rational economics

January 24th, 2008

I was listening this morning to a recent episode of the great podcast Skepticality, and I was very struck by a question host Swoopy asked of interview-ee Michael Shermer, talking about his new book on economics and psychology:

What do we do […] to make better rational choices and fewer emotional ones.

Dr Shermer gave a good answer about being aware of the tricks marketers play and the findings of economic psychology.

I have a slightly different answer: why should we?

There’s a lot of talk around (especially in the Australian media) about how experimental economics is showing “people aren’t rational”, of limits to rationality. Some of this is very good and interesting. Part of the problem is the word ‘rational’. When most economists use it they’re talking about a very narrow technical definition, that has little to do with the other dictionary meanings. That confuses a lot of people.

But there are also a lot of value judgements tied up in most people’s view of rational. For instance, I want to lose weight, but I also want to eat that chocolate bar. Is it ‘irrational’ if I do eat the chocolate bar? Of course not, it just reflects my preferences or discount rates at the time.

So, if our emotions would lead us to choose one thing, but the ‘rational’ choice is something else, is there any reason to think that it’s always better to choose ‘rationally’? Sometimes, sure. If it makes sense to go to another store for $50 off a $100 iPod, it also makes sense to do it for $50 off a $10,000 TV. But the chocolate bar is still a perfectly reasonable choice to make, even if it’s not what you’d choose from some other circumstance. Preferences don’t have to stand still all the time for people to be rational.