Skip main navigation

Rational choice in economics

In this video Kasia Abramczuk talks about the classic understanding of what is a rational choice.
KATARZYNA ABRAMCZUK: In everyday conversations, we often say that something is or is not a rational choice or a rational thing to do, but it can mean very different things. For example, if someone says that it is rational to take a bus to work, they might mean that if everybody took the bus, there would be no traffic jams and travelling through the city would be faster for everybody. If someone says it is irrational to spend too much time shopping, they might mean that one can use the time in a more efficient and pleasurable way.
When someone says that it is rational to go for vacation to a place you visited last year, they might mean that it is better not to change things that are satisfactory enough. When someone says that it is rational to strip on a nudist beach, they might mean that you should follow the relevant norms. So what is a rational decision? In economics, this question is answered in a very specific way, using concepts of revealed preference and utility. Revealed preference is a theory that predicts people’s choices based on their previous choices. The reasoning is as follows, people have various preferences. For example, some people might prefer tea to coffee, while others might prefer coffee to tea.
You can’t say one of these groups is rational and the other is not. Both groups can have a different preference. However, once we learn that someone consistently chooses tea over coffee, we can conclude that they prefer tea and expect them to continue to choose tea. In other words, their choice reveals their preference. This revealed preference can be modelled using utilities. Utilities are just numbers assigned to various options in a way that is in line with what a given person prefers. The more preferred options get larger numbers, and the less preferred options get smaller numbers. This is Agata. Let’s have a look at her preferences. She consistently chooses tea over coffee. This reveals her preference for tea.
Knowing this, we can, for example, assign utility 10 to tea and utility 5 to coffee. The relationship between these utilities corresponds to Agata’s preference. 10 is larger than 5. So they are a good description of Agata’s preferences, so would be other pairs of numbers like 2 and 1 or 215. At this point, it does not matter which numbers we choose as long as one is larger than the other. So we will stick to 10 and 5. Using numbers to describe preferences and choices has very interesting consequences. Let’s imagine that there is no tea, and Agata can choose only between buying a coffee or a juice. She chooses the coffee. What does it tell us about Agata’s preferences?
Let’s look at the numbers. We assigned 10 to tea and 5 to coffee. Now we have learned that coffee is preferred to juice. So we need to assign a number smaller than 5 to juice. It can be, for example, zero. Now the numbers do not only tell us that tea is preferred to coffee and that coffee is preferred to juice, they also tell us that tea should be preferred to juice, because 10 is larger than zero. We use this information about Agatha’s choices we observed to predict another choice. So what is a rational choice in economics? Well basically, it is a choice that can be described with utilities. Look at Agata. Now she chooses between tea and juice.
If she chooses tea, we will say that she made a rational choice. If she chooses juice, we will say this was irrational. If she prefers tea over coffee, coffee over juice, and juice over tea, there are no numbers to represent her preferences. Her preferences are circular. And this is considered irrational in a classic choice theory. We will talk more about this theory in the next step.
This article is from the free online

Decision Making in a Complex World: Using Computer Simulations to Understand Human Behaviour

Created by
FutureLearn - Learning For Life

Our purpose is to transform access to education.

We offer a diverse selection of courses from leading universities and cultural institutions from around the world. These are delivered one step at a time, and are accessible on mobile, tablet and desktop, so you can fit learning around your life.

We believe learning should be an enjoyable, social experience, so our courses offer the opportunity to discuss what you’re learning with others as you go, helping you make fresh discoveries and form new ideas.
You can unlock new opportunities with unlimited access to hundreds of online short courses for a year by subscribing to our Unlimited package. Build your knowledge with top universities and organisations.

Learn more about how FutureLearn is transforming access to education