Salman Ahmed Shaikh

Use of mathematics in economic theorizing has restricted economic analysis of consumer behavior within a confined boundary of certain axioms. Often, these axioms are found to be empirically false.

Even more importantly, these axioms and the analytical framework based on them is incapable of explaining economic choices in using environmental resources, public goods and social choice. Studies in behavioural finance have also documented information processing incapacities and biases that challenge some of the rationality assumptions.

In traditional mainstream consumer theory, the consumer is supposed to maximize a utility function subject to some budget constraint. To conduct maximization analysis, certain axioms are imposed on the consumer choice set that enable mathematical tractability and optimization analysis. Some of these axioms can be summarized into the following:

• Completeness (having complete knowledge of alternatives and having definite judgement while comparing them),

• Transitivity (comparative judgements on alternatives remain same and decisive always),

• Convexity (diminishing marginal utility from successive use or consumption, i.e. boredom from consistent use), and

• Monotonicity or non-satiation (more of a good is always better than less).

Some economists defend the neoclassical methods for analysing consumer behavior by arguing that the false assumptions are not potent reasons to abandon the mainstream methods and analysis. It is the empirical validity of predictions with observed behavior which gives the mainstream tools and methodology the credibility and wide acceptability.

They opine that if consumer behavior does not conform to the set of axioms adopted in neoclassical theory, then one cannot make the leap from maximizing utility to constructing welfare measures of consumer surplus using Hicksian or Marshallian demand curves.

Nobel Laureate Richard Thaler explains that since mainstream consumer behavior theory is based on a rational maximizing model, it describes how consumers should choose given the model and its assumptions; however, not necessarily describing how they do choose. Mainstream consumer behavior theory is normatively based and it only claims that it is also a descriptive theory.

But, in many cases, the mainstream consumer theory fails to predict the economic choices either because of rigid axioms or simplistic preference structure.

Nobel Laureate Amartya Sen explaining the shortcomings in the structure in neoclassical approach comments as follows:

“A person is given one preference ordering, and as and when the need arises this is supposed to reflect his interests, represent his welfare, summarize his idea of what should be done, and describe his actual choices and behavior. Can one preference ordering do all these things? A person thus described may be “rational” in the limited sense of revealing no inconsistencies in his choice behavior, but if he has no use for these distinctions between quite different concepts, he must be a bit of a fool.”

Monotonicity axiom (more of a good is always better than less) is irrelevant in environmental goods where the balance and coherence matters more than abundance. Health goods also require a balance for their effectiveness. Same is true when consumption is analyzed with respect to health effects (physical, emotional, psychological) and societal effects.

Furthermore, ‘Ultimatum Game’ reflects the fact that people tend to look at their choice outcomes relatively. The ultimatum game involves players making sequential moves in a simple take-it-or-leave-it bargaining environment.

One person, the proposer, receives a fixed amount of money and must offer a suggested split of this money with another person, the responder. The responder must accept or reject the offer as it is presented.

For example, assume Player 1, the proposer, receives Rs 20 million to split with Player 2, the responder. Player 1 may choose an even split, giving Rs 10 million to each person, or an uneven split, such as keeping Rs 18 million and offering Rs 2 million. Player 2 may either accept or reject this offer. If Player 2 rejects the offer, both players receive Rs 0. Most people reject unfair splits because of lack of fairness.

Also, Prisoner’s Dilemma highlights the fact that choices by each player in a self-centric way are not necessarily going to be best for them either individually or collectively.

The rational consumer theory is also overly optimistic about the information processing capability of the consumer. Recent evidence in behavioural finance and consumer psychology points to the fact that consumer information processing capabilities are limited and prone to error.

Explaining socially responsible behaviour, utility theory explains that people engage in impure altruism when they contribute in charity or donate for public goods. These charitable acts also emanate from self-interest, i.e. to get fame, satisfy ego or change the living environment to improve one’s own social experience and relations. In mainstream economic literature, ‘Warm glow’ is defined as the feeling of moral satisfaction generated by contributing.

However, socially responsible behaviour is not solely based on self-centric interest. Even when individual voters have limited probability of affecting actions and when the costs of casting votes could be substantial in particular circumstances, people still take the pain to cast votes. Even when reciprocity is not expected, people help others, strangers and often anonymously.

People recycle paper and plastic even though the impact of their individual action is environmentally negligible. Even the busy and rich people volunteer time (costlier resource for them) than donating money (whose marginal utility is less for them).

Hence, the neoclassical analytical framework is mathematically elegant, logically consistent, but it is often simplistic to explain economic choices in environment goods, public goods and social choice. Preferences are learned from family, societal norms and transferred over one generation to the others. In a community where moral values are high, chances are that people’s preferences would not go against the norm, learnings, culture and values of the community. Hence, there is need to inculcate moral values.

To promote cooperation, responsibility, mutual respect and ethical behaviour, it is important to broaden the analysis of choice behaviour beyond selfish self-interest. Since modelling choice behaviour as selfish self-interest as the only motivating factor is neither factual nor desirable. It is important not to glorify greed, wealth accumulation, lavish lifestyles and ‘ends justify means attitude.