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Blog: Inspiration
by Ryan Williams with Mae Saslaw

Behavioral Economics: How to Make the Right Buying Decisions

Drawing of a man choosing between two different sodas at a store.

I usually scribble down a shopping list before heading to the grocery or convenience store. Lists help me avoid buying things I don’t need or forgetting things I do, especially when I’ve got other things on my mind. My list for final exams included energy drinks, ibuprofen, and a fresh set of yellow highlighters. Eight Red Bulls, a bottle of Advil, six Bic highlighters, and $27.31 later, I was stocked for the home stretch.

I was also $6.50 poorer than I should have been: I could have walked out of the store with almost identical products and saved enough for a celebratory six-pack. But I didn’t. Why not? Shouldn’t I know better? Am I irrational?

Psychology and Spending

The short answer, of course, is yes. According to Dan Ariely, founder of the Center for Advanced Hindsight at Duke University, our economic decisions aren’t always rational. Instead, we are “predictably irrational.” For example, we irrationally conflate price with quality, which is why people pick expensive brand names over cheaper generic equivalents. The price differential can’t be attributed to quality, except when it comes to paper products—it should be said that pharmacy and grocery chains, for some irrational reason, have never managed to produce a strong and absorbent paper towel, or a tissue that doesn’t feel like sandpaper, or toilet paper that is anywhere near appropriate for daily use. In any other case, we’ve simply succumbed to the spell of branding. Be honest: When was the last time you reached for a brand-name product, knowing full well that the store brand was just as good?

There’s even more psychology to the shopping experience, of course. Ariely explains that we’re also much more likely to enjoy spending—and therefore spend more—if we pay with credit cards, since we’re not really spending money at that very second. Our brains just aren’t convinced that we’ll have to pay up eventually.

Accounting for the Irrational

Neoclassical economics assumes that balancing supply and demand leads to market efficiency. Adam Smith would expect me to walk out of the store having bought the less expensive, essentially identical goods every time. And maybe that is the more reasonable approach, but what happens when you expect the entire market to make the most rational decisions possible? If our choices always amounted to maximum efficiency, we shouldn’t need things like financial regulation. Of course, it isn’t that simple.

As the Financial Crisis of 2008 demonstrated, even the most committed supporters of free market efficiency must now admit its limitations. In a surprisingly candid exchange with Representative Henry Waxman (D-CA), former Chairman of the Federal Reserve Alan Greenspan admitted:

So the problem here is, something which looked to be a very solid edifice, and indeed a critical pillar to market competition and free markets, did break down. And I think that, as I said, shocked me.

Markets, in the real world, had misbehaved.

Planning for the Unpredictable

For the same money, I could have walked home from the store that night with twice as much Monster energy drink instead of Red Bull. Likewise, my head hurts just knowing that Advil and generic ibuprofen use the exact same chemical formula, and yet I willingly paid more for Advil.

What may be encouraging, however, is that these behaviors are predictable. They may be irrational, but we can account for them. For starters, don’t design your budget based on the prices of store-brand products when you know you’re going to buy the name brand. We can, and to some extent do, accept our irrationality on a larger scale. The idea is that we’ll learn from our mistakes.

The tough part, for some of us, is that it never seems like a big deal to drop an extra dollar or two for the quality or satisfaction you associate with a given brand. But if just one trip to the store costs me a post-semester celebration, imagine what a year’s worth of Red Bull might have cost.

I wonder if Bics really are brighter.