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Behavioural Economics Part II (Christmas Edition)

“It’s beginning to look a lot like…money spent on gift buying, Christmas deadweight loss and chaos in the market.”

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It’s that time of the year again. The end of the year is rapidly approaching and everyone is looking forward to seeing their presents under the Christmas tree on the morning of the 25th.

However, since Christmas is also about being selfless, economists have analysed the impacts of gift giving around the winter holiday period, as well as why people tend to behave less rationally from an economic point of view.

As it has already been established in Part I, people tend to display unexpected, irrational behaviour despite the microeconomic assumption that people are rational.

According to Joel Waldfogel, gift-giving has a healthy effect from a macro perspective as it positively affects spending. From a microeconomic perspective, gift-giving may actually lead to deadweight loss. The most evident reason is why it may lead to deadweight loss is the possible mismatch of preferences. The person offering the gift may not be familiar with the preferences the other person has. Furthermore, it has also been proven that the recipient undervalues the actual value of the present as he or she is not perfectly informed, ultimately destroying a third of the value of the gift. Since holiday expenditures average around 40 billion dollars/year, the deadweight loss of Christmas gift-giving is a tenth as large as the deadweight loss of income taxation (Waldfogel, 2014).

So what would be the most effective present that would lead to a reduced deadweight loss?

Money. And gift cards. Such a present will allow the recipient to maximize their level of satisfaction by making their own choices with the received money – or so that is objectively the ‘ideal’ economic situation.

However, people don’t always think in terms of efficiency or reduced loss when purchasing a present. Since emotion and social factors are a driving force in decision making, some may find it impersonal and self-interested to give banknotes to friends, family members or a significant other. Therefore, retailers observe the unpredicted behaviour of consumers and take advantage of their irrational decisions during the festive season. One of the ways in which retailers take advantage of people’s irrational behaviour is entailed by the endowment effect and loss aversion. People tend to evaluate the price they are willing to for a product, based on their relationship with the product. Simply owning the product seems to make it more valuable to us. “Losing” the product by not purchasing it sometimes has a stronger influence on our decision making than purchasing or “gaining” the object.

Another way in which people’s illogical behaviour can be an advantage for retailers is the illusion effect. When purchasing presents, people tend to think of the impact that the present has at that moment, also known as the “wow” effect – rather than evaluation how practical the present will be in the long-run. Knowing this, retailers manipulate consumers’ decisions by placing certain products at more accessible shelves or decorating stores in yellow, giving free samples; because subconsciously, yellow gives people the tendency to feel happier.

In short, markets know how to jog with people’s consuming behaviour during the cold season. So choose presents wisely this Christmas. :)

 

Bibliography:

Albertson, Kevin, and Manchester Metropolitan University. “The Economics of Christmas.”

World Economic Forum, 2013, www.weforum.org/agenda/2014/12/the-economics-of-christmas/.

Waldfogel, Joel. “The Deadweight Loss of Christmas .” Www.amherst.edu, 2001,

www.amherst.edu/media/view/104699/original/christmas.pdf.

Weissmann, Jordan. “The Behavioral Economist’s Guide to Buying Presents.” The Atlantic,

Atlantic Media Company, 16 Dec. 2011,

www.theatlantic.com/business/archive/2011/12/the-behavioral-economists-guide-to-buying-presents/249993/.

 

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