The maths behind gut decisions
First carefully weigh up the costs and benefits and then make a rational decision. This may be the way we want it to be. But in reality, invisible emotions, experiences, prejudices and even altruisms also influence our decisions.
In a nutshell
Human decision-making behaviour is far more complex than the traditional economic model of homo economicus, the benefit maximiser, suggests. Who would have thought, for example, that people who are able to determine their own salary do not in fact pay themselves the maximum but a rather moderate amount? That television affects our choice of junior staff or our income and consumption requirements? Or that people with an economic background actually behave differently when making financial decisions? Behavioural economists at the Halle Institute for Economic Research (IWH) are investigating what such irrational factors mean for a society's economic processes, using the (social) psychology toolbox and devising experiments and studies to identify and close the gaps in the homo economicus model.
Our expert for this issue
The world of work is one area where such deviations from the benefit-maximising ideal image are the rule rather than the exception. Companies need productive staff to be successful. In order to maintain or even improve this productivity, however, it is not enough for a firm to focus solely on the remuneration of its workforce according to the motto: the more, the better. Other factors, such as meaningful work or the feeling of being treated fairly, also affect workforce productivity levels.
For example, if employees learn at a later, that a task they have already performed was meaningless, they will make less of an effort with future work. This means that meaningless work not only evokes negative emotions at the time, such as disappointment and replaceability, but also influences future motivation, as IWH behavioural economist, Sabrina Jeworrek and her co-authors discovered with the help of a large-scale experiment. This discovery should not be confused with another, however: employees also definitely want information about their companies' setbacks. If, for example, a campaign has failed in the past, it makes sense to inform the workforce of this and not to conceal this fact. As employees will not be demotivated by this setback, as you might expect – on the contrary. They will try harder next time if they are able to regard the task as a meaningful challenge.
In another study, Jeworrek discovered that employees are less productive if they believe that their employer is treating their colleagues unfairly – even if they themselves are unaffected by this. For this experiment, 195 test subjects were hired for two assignments in a call centre. A section of the workforce was arbitrarily dismissed on grounds of cost savings. "We wanted the situation to be as anti-social and unfair as possible," says Jeworrek. And not only did productivity fall, the test subjects also took longer breaks and left work earlier.
The self-employed do not have the problem of colleagues being unfairly treated. Nevertheless,their behaviour is also affected by hidden factors. Whether they are gripped by entrepreneurial spirit also depends on which TV programmes they watched in their youth, for example. Or whether they have sufficient financial market knowledge. You see,econometric findings suggest that greater financial literacy leads to increased self-employment. So, if politicians want more entrepreneurial activity in Germany, the prevalence of positive role models, the inclusion of a basic grasp of economics in the curriculum and financial information would be a major starting point. As soon as a person becomes self-employed, their character also changes: if a person is self-employed they are more willing to take risks – and also more likely to remain self-employed.
And even the unemployed are influenced by context: IWH economist Steffen Müller discovered that parental unemployment affects children, for example. What is particularly interesting is that boys and girls react differently to parental unemployment. If their father was unemployed, both sons and daughters are more likely to be unemployed in future, but daughters experience a counter-reaction that sons do not: they invest more in their education.
Regardless of whether a person is employed, self-employed or unemployed, their subjective wellbeing heavily depends on how they perceive their position within their social group. This can also affect basic personal attitudes, for example, towards foreigners: if a person compares their income with that of their friends and feels financially inferior, this will have a negative impact on their sympathy towards foreigners – even if this person is actually a higher-earner.
People do not always act and make decisions rationally; they are fallible. Subconscious factors determine the direction of our decisions, and many of these factors are beyond our control. However, being aware of the mechanisms behind this can help us to understand people and their role in the economy, identifying and promoting their potential.
IWH Publications about this issue
Firm Wage Premia, Industrial Relations, and Rent Sharing in Germany
in: IWH Discussion Papers, No. 2, 2018
This paper investigates the influence of industrial relations on firm wage premia in Germany. OLS regressions for the firm effects from a two-way fixed effects decomposition of workers’ wages by Card, Heining, and Kline (2013) document that average premia are larger in firms bound by collective agreements and in firms with a works council, holding constant firm performance. RIF regressions show that premia are less dispersed among covered firms but more dispersed among firms with a works council. Hence, deunionisation is the only among the suspects investigated that contributes to explaining the marked rise in the premia dispersion over time.
Niedrige Soziale Mobilität in Deutschland: Wo liegen die Ursachen?
in: Wirtschaft im Wandel, No. 4, 2017
Weiterhin gilt in Deutschland: Für den Bildungserfolg ist es nicht entscheidend, was ein Kind kann, sondern woher es kommt. Die soziale Herkunft eines Kindes bestimmt in hohem Maße dessen Bildungsniveau, beruflichen Erfolg und Einkommen. Eine Untersuchung des Statistischen Bundesamts vom letzten Jahr zeigt, dass 61% der unter 15-Jährigen, deren Eltern selbst einen hohen Bildungsabschluss haben, 2015 ein Gymnasium besuchten, während dies nur für 14% der Jugendlichen aus Familien mit niedrigem Bildungsabschluss gilt. Empirische Studien belegen: Kinder mit einem bildungsfernen Familienhintergrund können in Deutschland nur mit einer deutlich niedrigeren Wahrscheinlichkeit als etwa in skandinavischen Ländern (Dänemark, Norwegen, Finnland und Schweden) und einer ähnlich hohen Wahrscheinlichkeit wie in den USA sozial aufsteigen.
TV and Entrepreneurship
in: IWH Discussion Papers, No. 17, 2017
We empirically analyse whether television (TV) can influence entrepreneurial identity and incidence. To identify causal effects, we utilise a quasi-natural experiment setting. During the division of Germany after WWII into West Germany with a free-market economy and the socialistic East Germany with centrally-planned economy, some East German regions had access to West German public TV that – differently from the East German TV – transmitted images, values, attitudes and view of life compatible with the free-market economy principles and supportive of entrepreneurship. We show that during the 40 years of socialistic regime in East Germany entrepreneurship was highly regulated and virtually impossible and that the prevalent formal and informal institutions broke the traditional ties linking entrepreneurship to the characteristics of individuals so that there were hardly any differences in the levels and development of entrepreneurship between East German regions with and without West German TV signal. Using both, regional and individual level data, we show then that, for the period after the Unification in 1990 which made starting an own business in East Germany, possible again, entrepreneurship incidence is higher among the residents of East German regions that had access to West German public TV, indicating that TV can, while transmitting specific images, values, attitudes and view of life, directly impact on the entrepreneurial mindset of individuals. Moreover, we find that young individuals born after 1980 in East German households that had access to West German TV are also more entrepreneurial. These findings point to second-order effects due to inter-personal and inter-generational transmission, a mechanism that can cause persistent differences in the entrepreneurship incidence across (geographically defined) population groups.