Caveman and moneyImagine there's a game where one person is placed in a room and assigned the role of the "sender." A second person in a different room is assigned the role of "receiver."

The sender is given $20, and has to write an offer on a piece of paper as to how that money should be split between the two. If the receiver accepts the offer, each person gets his allotment. If the receiver refuses, neither party gets any money.

If you are the receiver, what's the limit on when you should refuse the offer?

Economists, in an attempt to better understand the forces that govern these types of interactions in real life and real economies (whether it involves a businesswoman in New York or a hunter-gatherer in Australia), have tried to discern a set of rules that can predict our behavior as economic beings.

One of their most popular beliefs is a concept called "rational economics." It asserts that a person will do whatever is in his or her best financial interest 100% of the time.

What happens when you apply the concept to the game above? Rational economics predicts that you should be willing to accept a $19/$1 split!

Think about it: If you're offered a $19/$1 split and you accept, you walk away with an extra $1 in your pocket. If you say no, you walk away with nothing.

But there's a problem with the concept in this scenario and others: People don't always behave rationally.

When $0 Is More Attractive Than $1

In The Upside of Irrationality, Dan Ariely shows that economists simply haven't been able to replicate a situation where receivers are willing to accept a $19/$1 split. More often than not, deals tend to be accepted in the $12/$8 ballpark.

Rational economics, it turns out, doesn't do a very good job of predicting outcomes here.

"There is one interesting exception to this general rule," Ariely notes. "Economists and students taking economics classes are trained to expect people to behave rationally and selfishly. So when they play the game ... they accept the [$1] offer."
That's an important exception to the rule. Economists, surrounded by like-minded individuals, often help form policy that may not translate in the real world.

Fair Is Fair, Not Necessarily Rational

It's not much of a stretch to understand what's going on here. There's no way I'd be willing to deal with a $1 offer. And generally, that's what others think, too.

As humans, we are hardwired for this. A sense of fairness was actually a key to our survival as a species. For the vast majority of our existence, human beings have lived tribally. It's only in the last 10,000 years -- a blink of the eye evolutionarily -- that civilization has become our modus operandi.

One of the tenets of tribal existence is interdependence between the individual and the tribe. Sure, there is a social order, but all experiences are shared. When there's a drought, everyone -- from tribal leader to newborn -- must cut back on food.

It's not that it would be cruel not to feed others in your tribe. It's that it would be suicidal. Everyone relies on everyone else. If we didn't share things equally, we'd never have a tribe around us to help us survive.

This is the framework we are born with, and our brains haven't evolved out of it.

What's Really Governing Our Economies

The problem with rational economics arises when its concept is applied where tribal or simple emotional theories work better.

Robert Shiller, a best-selling author and economist, recently said, "I used to be cowed by the efficient [rational] markets hypothesis, and now I think it's a half-truth ... markets are driven primarily ... by investor sentiment."

In a brilliant New York Times piece, Jonathan Haidt argues that the same tribal and emotional themes explain what happens in the political sphere as well: "Despite what you might have learned in Economics 101, people aren't always selfish .... When people feel that a group they value ... is under attack, they rally to its defense, even at some cost to themselves. We evolved to be tribal, and politics is a competition among coalitions of tribes."

As Ariely, Shiller, and Haidt point out, we aren't automatons -- we're human beings that make decisions based on a wide range of variables. When economists build models for society based on rational economics -- instead of everyday practicalities -- they often end up making predictions wildly off target.


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Greg Nelson

OK, so this "proves" people aren't rational. I beg to differ. It only proves the receiver is willing to pay $1 to teach the sender a lesson on how to deal with others. Or if you like they are purchasing a f*@# you for a dollar. Change the rules to 19 million/1 million and see how many say no.

June 12 2012 at 5:31 PM Report abuse +1 rate up rate down Reply
epomeoinc

I would say that the premise is irrational . From the sender point of view a 19/1 offer would be driven by greed with the expectation that the receiver is a dope. So I do not see the rationality on a19/1 split in favor of the sender. The fair and balanced outcome should be a 10/10 split, since if there is no agreement neither one gets to keep the money. I guess this was a class in economics for our future CEOs and one percenters! In the real world this type of split occurs all the time: Owner/executive vs. employee. A worker needs a job and must accept the pay if he wants the job (the receiver). The sender (the employer) needs workers to keep the business going . . the rational would be that the sender would try to get the best worker for the least possible cost while the worker would try to get the best offer. A negotiation would lead to the best possible outcome to both parties. Now that is the real "ideal" world. However, when "greed" meets "dope" . . .the business suffers.

June 12 2012 at 5:29 PM Report abuse rate up rate down Reply
krzyston

The writer apparantly forgot about
Rational Expectation from Friedman

The player will expect a current payout based on his expect retrun from palying the game for maore than 1 round

Alexander Krzyston

June 12 2012 at 5:20 PM Report abuse rate up rate down Reply
Gumby

Before you study to become an economist, you have to do real menial work for years to get a better idea of how the half of us make our livings that is very tired, dull minded, screwed daily.. as well as understanding better how the the other half take wicked advantages of the former.. This is why we have a little socialsim around..

June 12 2012 at 4:13 PM Report abuse rate up rate down Reply
Kenneth Richards

I would not accept anything less than $10.

My reason is that either I have an equal amount or we both get nothing - an equal amount. Since I started with nothing when the game began it is not difficult to continue with nothing. The sender, on the other hand, started the game with $20 in his/her hand so to walk away with nothing would be much more difficult.

June 12 2012 at 3:06 PM Report abuse rate up rate down Reply
1 reply to Kenneth Richards's comment
indisposed99999

You miss the point of the game, which is that the sender has already made the offer, meaning they should theoretically be comfortable with walking away with nothing if you reject their offer.

However, you illustrate my point in my prior post. Its not that you don't value dollars $1-9, its that you value something else (in your case, your notion of "fairness") MORE. Thus, you are acting rationally, in your eyes, in rejecting any offer of less than $10.

I can tell you though, that the overwhelming majority of people don't offer a 50/50 split. Their reasoning is simple, and quite rational. Basically, they are betting that most people on the other side are going to take something over nothing.

As someone mentioned below, when these games are repeated over and over, the sides tend to settle at something approaching a 50/50 split.

June 12 2012 at 3:18 PM Report abuse +2 rate up rate down Reply
Cp

democratic political hack trying to ok the overspending of this sorry ass administrations policy.
I wonder if all the democratic party politicians live beyond their means in their personal lives
like they run government?

June 12 2012 at 3:05 PM Report abuse rate up rate down Reply
indisposed99999

The problem is that the person writing the article is a journalist, not an economist. The theory of rational economics absolutely does not predict that people will behave "rationally" by objective standards. It predicts that ever person will act "rationally" based on their own perception of what is in their best interests.
Yes, its stupid to walk away from a free dollar. However, the person that does so is signaling something very important, namely that they value an intangible (pride, subjective notions of fairness, jealousy, or even simple nihilism) more than the $1.

Yes, there is a disconnect between classical economic theory and the emerging field of behavioral economics, and yes, that disconnect is typically the result of personal experience or mindset.

The ultimate irony, of course, is that the divergence from the predicted models is best explained by the fact that over the past 30 years, americans have simultaneously grown: (1) more ignorant of basic economic concepts and (2) increasingly convinced that they know more. One need to look no further than the recent mortgage crisis for proof. Say what you will about Wall Street, the problem started with too many people willingfully borrowing more than they could safely afford. Did banks take advantage of people...of course. However, thats just further evidence of people's (lets be generous) and call it naivete.

June 12 2012 at 2:49 PM Report abuse +1 rate up rate down Reply
Normie Baby

The problem here is that a $1 is practically worthless in terms things that can be purchased. Change the rational economics experiment from $20 to $20million & see what happens. I'm willing to bet my share that the $1million will be accepted every time.

June 12 2012 at 2:37 PM Report abuse rate up rate down Reply
kkelseven

Economics, like Warfare, is a Contest ; what can I get from you or what can you get from me. The article makes a good point. There are other Elements that are not considered in Economic Theory/ Policy. Example, if I continually accept $8 to your $12 you would soon have enough to revise upward the cost of existence. As that cost approaches $8 your holdings would appreaciate toward Owning Everything and my $8 would degrade my existence to bare subsistance approaching enslavement. Persistent Revaluation, Devaluation and Rule Changes (outside the expected deviations within Time) make a Truly Fair and successful Economic System ultimately impossible. Unless we make the New Coin of the Realm... Goats. If Greece goes Broke; don't give them 100 Billion cash (a depreciating and often Pilferred asset) give them 100 Billion Goats..... a useful, hard to pilfer and Appreciating Asset.

June 12 2012 at 2:30 PM Report abuse rate up rate down Reply
1 reply to kkelseven's comment
indisposed99999

I defy anyone to translate this post into something approaching an intelligent set of comments.

June 12 2012 at 2:42 PM Report abuse rate up rate down Reply
hemipwr54

In today's society you give someone $20 they stuff it in their pocket and then want more, the poor and the rich are not so different in that respect.

June 12 2012 at 2:14 PM Report abuse rate up rate down Reply
1 reply to hemipwr54's comment
indisposed99999

If you simply choose to ignore the minor distinction that the former had the $20 handed to them, while the latter EARNED it.

June 12 2012 at 2:54 PM Report abuse rate up rate down Reply