The Myth of the Rational Consumer

At the heart of modern economics, even apparently contrarian economics such as Freakonomics, is the idea the consumer is rational; that the consumer can be relied on to act in their own best interests. If that’s not true, much of economic theory comes tumbling down. In fact, economists are so incredibly convinced of this dictate that when they observe apparently irrational behavior, they expend volumes attempting to justify and rationalize it, and prove that consumers are indeed acting in their own best interests. Indeed, that’s what Freakonomics is largely about.

The fact is people often aren’t rational. While we sometimes are, we often act directly counter to our own interests for no good reason. We have sensory and reasoning apparatuses evolved to help us find food in the jungle and avoid being eaten by tigers. Our reasoning abilities, as impressive as they are, can be actively counterproductive when applied to the complex, food-plentiful, tiger-free environment we live in today. Bruce Schneier explains this very well in his recent article on Rare Risk and Overreactions. Here’s one relevant portion:

The Virginia Tech massacre is precisely the sort of event we humans tend to overreact to. Our brains aren’t very good at probability and risk analysis, especially when it comes to rare occurrences. We tend to exaggerate spectacular, strange and rare events, and downplay ordinary, familiar and common ones. There’s a lot of research in the psychological community about how the brain responds to risk — some of it I have already written about — but the gist is this: Our brains are much better at processing the simple risks we’ve had to deal with throughout most of our species’ existence, and much poorer at evaluating the complex risks society forces us to face today.

Novelty plus dread equals overreaction.

We can see the effects of this all the time. We fear being murdered, kidnapped, raped and assaulted by strangers, when it’s far more likely that the perpetrator of such offenses is a relative or a friend. We worry about airplane crashes and rampaging shooters instead of automobile crashes and domestic violence — both far more common.

In the United States, dogs, snakes, bees and pigs each kill more people per year than sharks. In fact, dogs kill more humans than any animal except for other humans. Sharks are more dangerous than dogs, yes, but we’re far more likely to encounter dogs than sharks.

Our greatest recent overreaction to a rare event was our response to the terrorist attacks of 9/11. I remember then-Attorney General John Ashcroft giving a speech in Minnesota — where I live — in 2003, and claiming that the fact there were no new terrorist attacks since 9/11 was proof that his policies were working. I thought: “There were no terrorist attacks in the two years preceding 9/11, and you didn’t have any policies. What does that prove?”

What it proves is that terrorist attacks are very rare, and maybe our reaction wasn’t worth the enormous expense, loss of liberty, attacks on our Constitution and damage to our credibility on the world stage. Still, overreacting was the natural thing for us to do. Yes, it’s security theater, but it makes us feel safer.

People tend to base risk analysis more on personal story than on data, despite the old joke that “the plural of anecdote is not data.” If a friend gets mugged in a foreign country, that story is more likely to affect how safe you feel traveling to that country than abstract crime statistics.

We give storytellers we have a relationship with more credibility than strangers, and stories that are close to us more weight than stories from foreign lands. In other words, proximity of relationship affects our risk assessment. And who is everyone’s major storyteller these days? Television. (Nassim Nicholas Taleb’s great book, “The Black Swan: The Impact of the Highly Improbable,” discusses this.)

But really you should read the whole thing. Schneier is one of the most genuinely rational people writing about security, so of course he’s roundly ignored outside a small coterie of tech geeks.

I think the field of security and risk analysis is one in which it can be demonstrated empirically that people are not fully rational, and indeed that they behave irrationally in major, important ways. This is not just about politicians either. These irrationalities affect many small, individual decisions about whether to drive or fly, where to spend one’s vacations, and what products to spend one’s limited income on.

I’m curious how economists address this problem, and whether any of this makes them rethink their cherished belief that consumers are in fact rational. Can they rationalize people’s behavior with respect to improbable but mind-grabbing events? I suspect they can indeed do it, but I suspect this can be achieved only by twisting the idea of self-interest and rationality beyond any recognition. In particular, the only possible way out of this conundrum is to define security self-interest in terms of feeling safe rather than in terms of being safe; and that is a redefinition that is too irrational for me to accept.

7 Responses to “The Myth of the Rational Consumer”

  1. John Cowan Says:

    As Schneier also points out, security theater has its virtues on occasion. If having guys in camouflage stand around with empty guns makes people feel about as safe as they actually are, then it’s a worthwhile investment if the cost is not too high.

  2. Matthew Says:

    I doubt it will make economists rethink anything. To me it is clear that economists base a lot of their conclusions on some very dubious premises. Two that come to mind are “raising interest rates slows inflation” and “raising the minimum wage costs jobs”. People seems use these statements with the same confidence as if they were some basic laws of physics rather than some theory that sometimes applies and sometimes doesn’t. Economists sound very intelligent but their track record is not particularly impressive, it reminds me of the old joke “Economists have predicted 22 of the last 4 recessions.”

    With regards to peoples irrational responses, I think I am in agreement. I think people respond many times in ways that support their prejudices or their selfish intrests. For example security theater may well be a very rational response if it gets money to a congress person’s district or reinforces someone’s prejudice. But I wonder where we ever got the idea that people are rational? How come we have alcoholics, grossly over weight people, cigarette smokers?

  3. bob Says:

    People don’t act in their own best interests.

    They act in their own PERCEIVED best interests.

    And since everyone’s perception is slightly different, or can be manipulated (e.g. FUD, security theater), it’s not that hard to skew “the interests”.

    The basic premise of economics is really just a simplifying assumption. Without it, fundamental economics would be mired in marketing and psychology. Um, never mind.

  4. Amy! Says:


    There is at least one school of economics (that is, one economist) that acknowledges irrationality. I’ve forgotten the name. Close to the time of Adam Smith; name prolly begins with R.

    I remembered (and remember) that particular school of thought because it used an example that I found very compelling. Standard economics post Adam Smith posits not only rational self-interest in economic behavior, but that that behavior is *economically* rational. The example that I recall pointed out that people might well continue patronizing a store because they liked the shopkeeper. That happens to be one of the things that I do–how nicely I’m treated counts *far* more, for me, than usually-minuscule differences in price.

    But how do you model the economic effect of friendly, cheerful personality?

    By the same token, companies regularly lose money because their customers have had one bad experience (often spectacularly bad, but only *one*) with returns, or customer service, or tech support, or the like. It’s nearly possible to measure the nuisance value of a bad customer service experience, since it typically involves much wastage of time … but is that really the reason that customers don’t go back?


  5. Jersey Says:

    Bob makes an excellent comment. Its perceived reality that motivates purchasing not actual reality. If perceived reality is the same as actual reality then people are rational consumers. Although, if not then the whole premise is undermined.

    I’m not sure if anyone will want to debate in favor that all consumers (or even most) currently have an accurate perceived reality when purchasing or consuming.

    Economists just deny this concept. I once heard a statement (not sure if its true or not so i recommend research) that the only 100% rational people in this world are psychopaths and economists.

  6. Elliotte Rusty Harold Says:

    Information asymmetry is a real issue in economics, and one economists do address (albeit not often in Microeconomics 101). When consumers don’t have full information, they may well not behave in their own best interests. But I really don’t think that’s what’s going on here. I think security is demonstrably a situation in which even when people have full and complete information about the relevant risks, they still do not act rationally.

    The fact is most people know that they are more likely to die in an automobile accident than in a plane crash or a terrorist attack, but they do not properly weight the risks and behave accordingly.

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