Violations of rational utility-maximization: Where standard economics breaks down

Assumptions of the Standard Economic Model of Consumer BehaviorPeople have known preferences. People act with full information. People choose rationally so as to maximize utility.Full Internal KnowledgeFull External KnowledgeMaximizing Choices

It is relatively easy to adjust models for violations of assumption 2People have known preferences. People act with full information. People choose rationally so as to maximize utility.Full Internal KnowledgeFull External KnowledgeMaximizing ChoicesThe first two are simple informational deficiencies. Correct information (experimentation, education) cures the deficiency.

Violating rational choice to maximize utility is the problemPeople have known preferences. People act with full information. People choose rationally so as to maximize utility.Full Internal KnowledgeFull External KnowledgeMaximizing ChoicesThere is no easy “cure” when this assumption is wrong. The model just doesn’t work in those cases.

Let’s look at some examplesWe will look at some examples of different people.Think about whether or not the person is acting rationally to maximize his or her utility (well-being; happiness; satisfaction).I’ll ask your opinion at the end of each.

Example 1http://www.youtube.com/watch?v=AkvdEoM4Uqsfrom 5:05 to end

Rationally maximizing utility?Do you think the previous person was acting rationally to maximize her utility?YesProbablyI have no ideaProbably notDefinitely not

Example 2http://www.youtube.com/watch?v=_7ltjqBn8K4

Rationally maximizing utility?Do you think the previous person was acting rationally to maximize her utility?YesProbablyI have no ideaProbably notDefinitely not

Example 3http://www.youtube.com/watch?v=OswtLmGX9bw

Rationally maximizing utility?Do you think the previous person was acting rationally to maximize his or her utility?YesProbablyI have no ideaProbably notDefinitely not

Example 4First 1:50 of http://www.youtube.com/watch?v=kOPOK24g9Cc

Rationally maximizing utility?Do you think the previous people were acting rationally to maximize their utility?YesProbablyI have no ideaProbably notDefinitely not

The impact of these examplesWhile these examples may seem extreme, consider the associated societal problems …ObesityAddictionHIV/STDsViolenceDo you see how these “exceptions” to the rule are not minor issues?

Beyond opinion: A fundamental conflictIn the previous examples, you may or may not have agreed with the idea the people were behaving rationally so as to maximize their happiness. Perhaps they simply lacked information?Perhaps the choice was maximizing for them, even if it would not be for you?

Perhaps they simply lacked information?

Perhaps the choice was maximizing for them, even if it would not be for you?

A fundamental economic lawIf people rationally maximize utility Then, with full information, more choices are always better (or at least no worse)If new options are not better than current options, I simply won’t choose them≤

Costly choice removalWill people willingly paying more money to remove an option?$1,000$500

Costly choice removalDo people checking into a drug rehab program know that the drug will not be available?

Costly choice removalDo people attending a weight loss camp know that their favorite foods will not be available?

Costly choice removalWill people fighting alcoholism pay money to take Antabuse (disulfiram), a drug that causes alcohol to be nauseating?

Costly choice removalDo people ever choose to drive the longer way home in order to avoid being tempted?

Costly choice removalOr the person would not make utility maximizing choices in the presence of this option. Either this choice is not utility maximizing$1,000$500≤

Costly choice removal contradicts simple rational utility maximizationIf I would make rational choices in the presence of the optionThen paying for choice removal is an irrational actIt is because I would NOT make rational choices in the presence of the optionIf paying for choice removal is NOT an irrational act

Homo Economicus v. Homer Economicus“The falseassumption is that people always make choices that are in their best interest. This claim is either tautological, and therefore uninteresting, or testable. We claim that it is testable and false—indeed, obviously false.”Thaler, R. (U. Chicago), & Sunstein, C. (U. Chicago), 2003, Behavioral economics, public policy, and paternalism: libertarian paternalism. The American Economic Review, 93(2), 175–179.

ConclusionMost people understand that we do not always make rational choices that are utility maximizing.The widespread presence of costly choice removal is a specific example indicating that people often do not make rational utility-maximizing choices.