Rational Choice Theory as (Mis)applied to Consumer

Rational Choice Theory as (Mis)Applied to Consumer Spending and Decision-Making: Implications for Management

The recent economic downturn seems to have been precipitated by a series of bad decisions made by consumers -- at the encouragement of opportunistic loan officers and organizations that ought to have known better and in many instances probably did -- in selecting loan products that they could not afford. While many companies and individuals walked away from the sudden fallout in the credit market wit great sums of cash, those that had purchased securities backed by bundled mortgages found themselves with virtually worthless assets, and the entire credit market crumbled. It would seem that somewhere along the line, a great number of people made choices-based either on faulty and perhaps even deliberately misleading information or an abysmal lack of foresight -- and often perhaps both.

This calls into question of the dominant theories regarding consumer choice and economic behavior general: rational choice. Simply put, rational choice theory assumes that consumers and other economic actors think rationally about their decisions and make economic and spending decisions after assessing the costs and benefits as accurately as they are able to (Scott 2000; Huebsch 2010). This leads to some degree of predictability in consumer behavior and provides a clear platform for the analysis of past economic actions and events; if people act rationally according to an assessment of the costs and benefits of each economic decision they make, then any situation can be analyzed based on their perception of costs and benefits.

It is far from certain that rational choice theory is actually applicable in all or even many situations, however, and in fact there are a multitude of empirical studies and pieces of theoretical research that suggest several entirely different models of decision-making and economic behavior are more accurate in different scenarios (Miller et al. 1996; Jacoby 2000). The number of poor long-term decisions that many consumers make appear to be far more rationalized than simply rational; that is, people often convince themselves that they are making rational decisions even when it is clear that they are acting in ways counter to their best interests (the diabetic individual opting for the second serving of pie, the emphysema patient who decides the next pack of cigarettes truly is worth it, etc.). This paper examines the concept of rational choice and the evidence that supports it, the implications that rational choice theory has for management, and ultimately provides a critical analysis of the theory's validity.

Rational Choice Theory

Though formed primarily as an economic theory of behavior, the fact that rational choice theory necessarily depends on psychological factors means that it is broadly applicable throughout the human sciences. Studies of law and criminal justice as well as sociology have all employed the rational choice theory, and the theory has been studied from a variety of perspectives (Jacoby 2000; Huebsch 2010). At one level, it seems to make a fair amount of sense -- people do definitely seem to act in their own self-interest much of the time, and rational choice theory makes self-interest the ultimate goal of every decision.

When rational choice theory is examined on a deeper level, however, it becomes clear that many of the basic assumptions on which the theory hinges, perhaps most especially the access to information and the truly rational processing of this information that behavior and decision-making is based on in this theory, are simply untenable (Jacoby 2000). Rational choice theory insists that all complex social interactions, phenomena, and choices (of which economic actions are a subset) can be boiled down to sets of individual and simple choices and actions, and that each of these individual choices is made rationally and discretely (Scott 2000). This does not truly account for the vast complexities influencing the decision-making process, including the full context within which each elementary decision/action is made and the host of psychological phenomena that have been noted for causing major distortions in the processing and accessing of information (Jacoby 2000).

Implications for Management

If rational choice theory were correct, managerial decisions would be much easier and even codifiable based on a series of explicitly and discretely defined variables and calculations that accounted for the various factors involved in any decision making process by consumer and employees to boot. With a given set of circumstances, every individual would be expected to react in the same way as they would all be operating using the same information (Jacoby 2000; Scott 2000). The fact that people do not act in the same way when presented with the same information makes this theory only vaguely useful for managers.

It could be (and has been argued) that each individual is acting rationally, but with different pieces of background information and different value system that lead to different decisions in a given situation (Scott 2000; Hoebsch 2010). This is essentially saying that there is no such thing as objective rationality, however, which means that the very concept of rationality and even more so the belief in a rational choice theory in economics are completely meaningless. Noting the importance of interpretation, the use of symbols, and the many complexities of each individual social interaction or economic choice automatically pulls the researcher or questioner away from rational choice theory and to any number of the more complex emerging theories in decision modeling and understanding behavior (Miller et al. 1996). Rational choice theory can provide a very basic analysis of how a population might statistically react assuming all variables have been correctly identified, but it reveals very little about what real individuals might do (Jacoby 2000).

Critical Analysis

It is already abundantly clear that in the eyes of this researcher, rational choice theory does not appear to provide a very successful model for decision-making and behavior. There is a great deal of research supporting rational choice theory, but likewise there is a great deal of research that suggests it is entirely claptrap. Examples of this evidence have been cited above; these sources illustrate the complexity of factors in decision-making that are unaccounted for in rational choice theory and that render it practically unusable if not theoretically unsound.