A different face of rationality



THIS year’s Nobel Prize for Economics has been awarded to Professor Richard Thaler of the University of Chicago for his contributions toward “behavioral economics”. Thaler’s main research focus is to observe and analyze how people’s psychology and consequent behaviors affect their economic, financial or business decisions.


Conventional economics theories would dictate that a reasonable person is an almost absolutely rational decision maker and implementer. He or she would take into consideration the consequences of the various options at hand, then decide what is in the best long-term interest of himself or herself. But Thaler’s research indicated that supposedly reasonable persons may actually not be as rational as was first thought when making economic and other decisions. Sometimes they may make decisions without first examining all the options thoroughly. Sometimes they may take into account not only their own but others’ interests as well. And sometimes they may even sacrifice long-term interest in favor of more short-term, immediate ones.

I am much intrigued by the possibility of applying some of Thaler’s well-observed behavioral economic theories in the context of developing countries. Over this and the next few columns, I will rather audaciously, but also very gingerly, try to demonstrate that at least in the “peculiar” socioeconomic realities of developing countries, what Thaler perhaps considers to be somewhat less than “rational” economic decisions, are nevertheless possessed with a “twisted” logic or rationality of their own.

Thaler proposes the phenomenon of “limited rationality,” whereby people perhaps do not think through the overall consequences of their various options before embarking on a particular economic decision. This includes people who subjectively perform “mental accounting”, whereby they allocate different economic “accounts” in their minds (which may or may not translate into bank accounts in reality) for different economic purposes. Some “accounts” are for more mundane obligations such as mortgages and car loans. Other “accounts” could be for more long-term “investments,” such as saving for children’s education or geriatric medical expenses. As many of these “accounts” have been “fixed” or “segregated” in the person’s mind, when faced with an acute cash requirement, he or she may forego moving funds from the other “unaffected” “accounts” to deal with the emergency, but instead borrow with high interest to tide them over. This is despite the fact that careful calculations would indicate that it would be more worthwhile to just reshuffle the funds from these various mental “accounts”. For Thaler, this is perhaps a less than rational decision.

But in the context of developing countries, I would propose that things often assume a curious logic of their own. To start with, education and medical services of reasonable standard are often sorely lacking in these places, unlike in advanced Western countries, where these high-quality public “utilities” are often almost free (with very high taxes to match, of course). In some developing countries, for example, although public education of some quality is theoretically available; in reality it might be restricted to a small circle of social elites only. The vast majority of the country’s population would then have to fend for themselves as far as quality education is concerned.

It is indeed rather ironic that although by definition developing countries should be in need of further development, they often do not (bother to) develop a comprehensive technical education system so that those who do not choose to attend university would be able to enroll in this alternative education system. They will then be well prepared to embark on a productive and lucrative future career, much like their erstwhile counterparts in developed countries such as Germany and Australia, where it is not unheard of for a technical college-trained plumber to earn the same, if not higher, income than say a university-educated engineer. Instead, many developing countries still stratify their societies (and thereby incomes) according to the possession of a university diploma or otherwise.

Faced with this predicament of limited availability of public university places, the more enlightened parents in developing countries assiduously save money for their children to be able to eventually study overseas or enroll in private local universities, such that the children would afterwards be in possession of what in essence would be the ticket to a higher income bracket instead of being stuck within the same socioeconomic rut as their parents. Such an educational “account”, be it mental or in reality, is indeed an indispensable long-term investment which must not be touched, as it can almost literally lift members of one socioeconomic class into a higher one. As to meeting acute cash requirements, that can be dealt with in the future, even with the higher interest, by savings elsewhere. Therefore, the non-transferability between different “mental accounts,” at least in the context of developing countries, may be argued to be anything but “irrational”.


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