The University of Massachusetts Amherst

Pizza & Prof: Behavioral Economics and Rational Decision-Making

Pizza & Prof: Behavioral Economics and Rational Decision-Making
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Imagine this scenario: you find yourself in a store and are about to purchase a $25 sweater. Suddenly, your friend rushes in and tells you that the same sweater is being sold for only $15 at a store that’s a block away. Would you make the effort required to save $10?

Now picture the same situation, but you’re about to buy a $25,000 car. You’re told that you can buy the same car at a nearby dealership for $10 less; do you still make an effort to save the same amount of money?

If you said yes to the first scenario but no to the second, an economist would say that you’re being an irrational consumer. According to Diane Flaherty, professor of economics and an associate dean for curriculum and academic oversight within the Commonwealth Honors College, $10 is $10 is $10 – it shouldn’t matter that one item is several magnitudes greater in price because you’d still be saving those ten dollars. As a result, relative thinking is deemed “irrational” in the field of economics. 

Flaherty delved into these quandaries during the Pizza and Prof event on Tuesday, April 2nd, describing how her work revolves around this type of consumer behavior and understanding why we make the expected – or unexpected – decisions we make. Abstract models can only go so far, so the job of a behavioral economist is to attempt to identify the complexities that underpin consumer decision-making.

As Flaherty explains, “People don’t behave the way economists think they do!” For this reason, individuals in the fields of marketing and psychology often have insight into the reasoning behind buying patterns. First and foremost, context is key: a decision that is rational in one situation may be irrational in another. Further complicating these scenarios is the reality that humans are social, emotional beings. Whether we are conscious of it or not, we more or less tend to conform to the tendencies of those around us, which may be reflected in the ways we think and act.

While we like to believe that we are independent thinkers, we are often influenced by cues in our environment that shape our decisions. These are generally so subtle that we don’t even pick up on them; for instance, the MSRP (manufacturer’s suggested retail price) for an item may make something that’s “on sale” seem like a steal simply by comparison, even when the sale price is still higher than what we wanted to pay.

Likewise, an offer that seems to be a “no-brainer” is probably a marketing strategy meant to benefit the company more than the consumer. In practice, this could take the form of a store offering a deal where the purchase of a new laptop means that a pair of headphones will be thrown in “for free.” “Something that is ‘free’ almost never actually is,” says Flaherty. If you were the customer, would you stop to take the time to calculate the cost of the laptop and headphones separately to ensure that this is truly a cost savings? Did you even want or need the headphones in the first place?

In a case like this, Flaherty cautions us as customers to question our habits. She also suggests several ways to avoid the traps that modern marketing sets up for us. By sticking to a budget limit and researching exactly what we intend to buy, we will be less likely to be reeled in by extraneous offers that may not even give us what we’re looking for. “Don’t be led astray by relativity,” Flaherty warns. When you walk into that high-end restaurant serving an $80 steak, don’t concede that you’re willing to pay $40 for a burger simply because it’s half the cost of the steak.

But beyond influencing customers to walk out of a store or restaurant having spent more than they intended to, behavioral economics can be used to inform large-scale policy recommendations and decisions. Flaherty ended her talk with the proposition of free college education, a controversial topic among politicians, educators, and taxpayers alike. If it sounds too good to be true, it probably is; only when we take a more critical look at an idea can we improve it and make it a more realistic option that meets the needs of all stakeholders involved.

Dr. Flaherty specializes in the areas of political economy and comparative economic systems. Her interests in regional economies and microeconomics have taken her around the world, including spending time in South Africa where she studied how gender roles, cultural norms, and other social factors affect the process of generating employment as a means of empowerment for women.