Does Having Too Much Money Make Us Stupid ?
Scarcity promotes better economic reasoning.
Posted Sep 01, 2017
As a science, economics does not always succeed at predicting how humans behave. The discipline assumes a level of rationality, and an ability to process complex information, that far exceeds human capacity. But as a standard for how people ought to behave, economics provides an excellent set of lessons. Consider the economic principle of consistency in financial trade-offs. If you are purchasing an appliance at a chain store, for example, and find out the product you are buying is $50 cheaper at the store across town, rational economic choice would ask you to ponder whether the time and expense and hassle of that crosstown trip is worth the $50 in savings. That pondering—of that economic decision—should be unchanged regardless whether the appliance you are purchasing will cost you $100 or $1,000.
But of course when faced with this scenario, people are not economically or logically consistent. When imagining the purchase of a $100 appliance, far more people report being likely to travel to save $50 (a 50 percent savings!) than when they are asked to imagine that the original purchase price was $1,000, and the $50 reduction feels barely noticeable.
Aren’t people cute? Isn’t inconsistency and sloppy economic reasoning adorable?
You might even wonder whether the people who exhibit this kind of inconsistent behavior simply do not understand the value of time and money. Maybe they don’t have enough economic savvy to think carefully about trade-offs, like this one between time/effort and money.
Or maybe they simply have too much money to bother to be consistent! According to an article by Anuj Shah and colleagues, people’s economic reasoning—their consistency in the face of economic trade-offs—is improved when they are faced with scarcity. Over a series of scenarios, they found that people with little money to spare proved to be much more consistent in making economic decisions.
Here’s one of their scenarios, a famous one in the behavioral economics literature:
Imagine you are lying on the beach on a hot day. (Why lie there on a cold one?) Your friend offers to pick up a bottle of your favorite beer from your nearby grocery store, but doesn’t know how much the store will charge. He wonders if there’s a price that would be beyond what you would be willing to pay, so asks you what the highest acceptable price would be. This economic decision is quite straightforward. If the price is too high, you will be better off keeping your money. The most you should pay ought to depend on how much you want the beer, and on how else you would use the money if you decided not to get the beer.
As it turns out, people with above average incomes in Shah’s study said they would tell their friend to buy the beer if it costs $5.50 or less. That’s neither right nor wrong, by this measure. But something interesting happened when the scenario was changed just a little bit. When a different group of participants was told that the friend was going to the nearby resort bar to pick up the beer, they reported a willingness to pay value of almost $7. For the same beer. They were economically inconsistent.
This finding is well known in behavioral economics, and shows that there are contextual factors that influence how people think about prices, factors that shouldn’t according to standard economic reasoning. But the likelihood that a person will demonstrate such inconsistency depends in part on how wealthy they are. The people in Shah’s study who had below-average incomes did not raise their willingness to pay for the beer from the resort bar. Their willingness to pay was far more consistent, more in alignment with rational economic reasoning. Shah and colleagues think it is awareness of scarcity that creates this consistency, by bringing trade-offs to the top of people’s minds: “Instead of looking to external factors that shift haphazardly, people experiencing scarcity look to internally generated standards that provide a more stable frame.”
Maybe you’re not convinced. Maybe you think rich people simply have a better understanding of resort bar pricing, and recognize they will be required to pay a premium for beverages from such establishments. That might be true, and people with more money will presumably be less sensitive to the price of beer that they drink. But that doesn’t justify being willing to pay more for their beer when it comes from one establishment rather than another. If having a cold one is really worth $7 to you, then it shouldn’t matter whether that cold one comes from a grocery store or resort bar.
Besides, rich people in Shah’s study showed inconsistent economic reasoning across a wide range of scenarios that didn’t require intimate knowledge of resort bar pricing. For example, they were more prey to the “is it worth $50 to drive to the other store” problem.
I am in no way claiming that rich people are dumber about money than less wealthy ones. Instead, I want to highlight that this type of research reveals an important truth about human judgment. Our decisions depend on a host of conscious and unconscious forces. The quality of our decisions hinges in part on our ability and inclination to consider the trade-offs facing us.
None of us—none!—live up to the ideals of rationality laid out by economic theory. But under the right circumstances, such as under scarcity constraints, we are more likely to approach these ideals.
* Previously published in Forbes.