Mawi 1

Consumer Behavior: Rationality

In economic point of view, people are rational. It means that people weigh costs and

benefits every time they make a choice and choose to do something only when the benefits or

utilities gained outweigh the costs. In other words, people are utilities maximizers.

Sometimes, we see people who make seemingly irrational choices such as suicide. Still, it

is a rational choice if the person gets more utilities from committing suicide than living. Here, we

need to be aware that rationality is subjective. What might seem irrational to one person can be

perfectly rational to another. Even if we think suicide is an irrational choice no matter what the

circumstance are, it does not mean that it is irrational for the person choosing suicide. What it

means is that costs and benefits are subjective as well. My cost of living includes putting my

mental energy into studying for my classes and dealing with customers at work and my physical

energy into working at a part-time job, cooking and cleaning the house and so on. On the other

hand, my benefits of living includes having fun with my friends, living in a clean house, eating

delicious food, feeling good about my grades and my expected future after graduation. For me,

my benefits of living outweigh the costs. For a person who choose suicide, perhaps the costs of

living are much higher than the benefits because of stress at work, bullying at school, a bad

disease, etc. or the utilities gained are much lower due to lack of friends, lack of food and shelter,

lack of good expectation for the future, etc. Therefore, we both make rational choices even when

our choices are different.

Similarly, selfless acts such as donating half of the liver or bone marrow to complete

strangers are rational as long as the donor gains utilities. Still, how altruistic a person is varies by

each person. The more altruistic the person is the higher utility he or she will get by helping

others. Hence, the choices will be different.

Mawi 2

Our costs and benefits evaluation is not only subjective but also can be incorrect due to

four common pitfalls in decision making. The first is ignoring opportunity cost. An example

would be deciding to try a new drink at Starbucks. For me trying out a new flavor is worth $10

and I see a new drink that costs $7. However, my cost of buying the new drink is not only $7 but

also $5 for the Strawberry Frappuccino that I have to give up for this new drink. So my total cost

of trying the new drink is $12 and my benefit is $10. As a rational person, I should not try the

new drink.

The second is including sunk cost in decision making. If I go to Six Flags amusement

park and pay $50 for the entrance fee, then it rains after one ride. I want to ride 3 thrilling rides

but all roller coasters are closed for the day because of the rain. The only ride left is an indoor

ride at I do not particularly like and there is a very long line for it. Since I will not get back the

entrance fee I paid no matter I go home or stay for the indoor ride, I should not include it in my

decision. My benefit of going home is to be warm and comfortable whereas my benefit of the

ride is zero because I do not like it. In this case, the rational decision is to go home.

The third is thinking in proportion instead of absolute numbers. It is correct to state things

in proportion for things like grades and battery level, but we should think of absolute values for

financial decisions. Let’s take buying textbooks for instance. The English textbook is in school

bookstore for $50 and it is $40 on Amazon with no shipping fee. I would buy it online to save

$10. For the Mathematics textbook, it is $250 in school bookstore and $240 on Amazon. The

rational decision is to buy it online as well and save another $10. If I am willing to buy a

textbook online to save $10 then I should do the same for the other as well no matter the saving

is 20% or 4%.

Mawi 3

The last is not understanding the difference between average and marginal. For example,

I want to know how many hours I should spend for memorizing Spanish words. I study for 1

hour and memorize 50 Spanish words. If I study for 2 hours, I can memorize 150 Spanish words.

If I study for 3 hours, I can memorize 210 Spanish words. On average, I memorize 70 Spanish

words every hour. So it seems that if I study for 4 hours, I can memorize 280 Spanish words. In

truth, the marginal Spanish word I memorize is increase at the second hour and start decreasing

after that Even if I add the fourth hour, the marginal Spanish words would be only about 40.

Therefore, the rational choice would be to study for 2 hours.

Another thing we need to be aware of is that we do not always have full information to

make a decision. For example, a guy asks a girl out. The girl now has to decide, but she does not

know if he is serious or not. Only the guy does. This situation is what Economists called

asymmetric information. Under asymmetric information, making a rational decision is harder

because we face risks. Risks make our expected outcomes or payoffs uncertain. Hence, making it

harder for us to evaluate the costs and benefits. In this example, she could get into a good

relationship if she goes to the date but it can also be a bad relationship or nothing at all. Let’s say

her chances of getting one of the three is equal. If she is a risk-seeking person, she would take

the risk of not getting a good relationship with 66.67% chance for 33.33% chance of the good

relationship by going to the date. If the girl is a risk-averse person, she needs the chance of the

good relationship to be much higher than the other two for her to go on the date. Here, I want to

point out that being risk-averse or risk-seeking does not mean the actions are irrational. These are

just different behaviors patterns. If the certainty of a good relationship gives the girl more

utilities, behaving in a risk-averse way is rational for her.

Mawi 4

The alternative for cost and benefit analysis is maximizing utilities by preference

ordering. In preference ordering, we rank all possible consumption bundles according to our

preferences. There are four properties of preference ordering. The first is that the ordering of

consumption bundles is complete. The second is that a bundle with more goods is better. The

third is that preferences of the bundle are transitive, which means I would prefer bundle A over

bundle C if I prefer bundle A over B and bundle B over bundle C. The fourth is that a bundle

containing mixtures of goods are preferred to a bundle containing just one type of goods, which

means I would prefer a bundle of rice and eggs over a bundle of just rice.

When plotting these bundles on a graph, we can connect the ones that will give us the

same level of utilities. It is called an indifference curve. Indifference curves show us all the

possible bundles that give us the same level of utilities. If bundle A and B are on the same

indifference curve, choosing bundle A gives me the same utilities as bundle B even if they do not

have the same contents. Also, the higher the indifference curve, the higher the utility level is.

Nonetheless, indifference curves alone cannot help us find the optimal bundle because we are

bound by scarcity. Rationally, I would choose a bundle on the highest indifference curve if there

is no limit, but the limit is my budget. Because of the budget constraint, the rational choice now

is to find the optimal bundle that will give me the highest utilities within my budget. Since our

preferences are subjective, our optimal bundles are also subjective. My optimal bundle with a

budget constraint of $800 includes $150 of gas, $300 of rent, $200 of food, and $50 of

entertainment. Another person with the same budget contain may choose $500 of rent and $300

of food. It does not mean that my utilities is higher or I am more rational. As long as we choose

our optimal bundles according to our preferences, both of us are rational.

Mawi 5

All in all, rationality and utility are subjective. People gain utilities from more than just

material consumption. No matter what their choices are as long as their decision is based on their

preferences and they choose the one with the highest utilities, they are rational.