Rational choice theory
Rational choice theory refers to a set of guidelines that help understand economic and social behaviour.[1] The theory originated in the eighteenth century and can be traced back to the political economist and philosopher Adam Smith.[2] The theory postulates that an individual will perform a cost–benefit analysis to determine whether an option is right for them.[3] It also suggests that an individual's self-driven rational actions will help better the overall economy. Rational choice theory looks at three concepts: rational actors, self interest and the invisible hand.[4]
This article is about a theory of economics. For rational choice theory as applied to criminology, see Rational choice theory (criminology). For rational choice theory as applied to international relations, see Rationalism (international relations).Rationality can be used as an assumption for the behaviour of individuals in a wide range of contexts outside of economics. It is also used in political science,[5] sociology,[6] and philosophy.[7]
Overview[edit]
The basic premise of rational choice theory is that the decisions made by individual actors will collectively produce aggregate social behaviour. The theory also assumes that individuals have preferences out of available choice alternatives. These preferences are assumed to be complete and transitive. Completeness refers to the individual being able to say which of the options they prefer (i.e. individual prefers A over B, B over A or are indifferent to both). Alternatively, transitivity is where the individual weakly prefers option A over B and weakly prefers option B over C, leading to the conclusion that the individual weakly prefers A over C. The rational agent will then perform their own cost–benefit analysis using a variety of criterion to perform their self-determined best choice of action.
One version of rationality is instrumental rationality, which involves achieving a goal using the most cost effective method without reflecting on the worthiness of that goal. Duncan Snidal emphasises that the goals are not restricted to self-regarding, selfish, or material interests. They also include other-regarding, altruistic, as well as normative or ideational goals.[8]
Rational choice theory does not claim to describe the choice process, but rather it helps predict the outcome and pattern of choice. It is consequently assumed that the individual is self-interested or being homo economicus. Here, the individual comes to a decision that maximizes personal advantage by balancing costs and benefits.[9] Proponents of such models, particularly those associated with the Chicago school of economics, do not claim that a model's assumptions are an accurate description of reality, only that they help formulate clear and falsifiable hypotheses. In this view, the only way to judge the success of a hypothesis is empirical tests.[9] To use an example from Milton Friedman, if a theory that says that the behavior of the leaves of a tree is explained by their rationality passes the empirical test, it is seen as successful.
Without explicitly dictating the goal or preferences of the individual, it may be impossible to empirically test or invalidate the rationality assumption. However, the predictions made by a specific version of the theory are testable. In recent years, the most prevalent version of rational choice theory, expected utility theory, has been challenged by the experimental results of behavioral economics. Economists are learning from other fields, such as psychology, and are enriching their theories of choice in order to get a more accurate view of human decision-making. For example, the behavioral economist and experimental psychologist Daniel Kahneman won the Nobel Memorial Prize in Economic Sciences in 2002 for his work in this field.
Rational choice theory has proposed that there are two outcomes of two choices regarding human action. Firstly, the feasible region will be chosen within all the possible and related action. Second, after the preferred option has been chosen, the feasible region that has been selected was picked based on restriction of financial, legal, social, physical or emotional restrictions that the agent is facing. After that, a choice will be made based on the preference order.[10]
The concept of rationality used in rational choice theory is different from the colloquial and most philosophical use of the word. In this sense, "rational" behaviour can refer to "sensible", "predictable", or "in a thoughtful, clear-headed manner." Rational choice theory uses a much more narrow definition of rationality. At its most basic level, behavior is rational if it is reflective and consistent (across time and different choice situations). More specifically, behavior is only considered irrational if it is logically incoherent, i.e. self-contradictory.
Early neoclassical economists writing about rational choice, including William Stanley Jevons, assumed that agents make consumption choices so as to maximize their happiness, or utility. Contemporary theory bases rational choice on a set of choice axioms that need to be satisfied, and typically does not specify where the goal (preferences, desires) comes from. It mandates just a consistent ranking of the alternatives.[11]: 501 Individuals choose the best action according to their personal preferences and the constraints facing them.
Benefits[edit]
The rational choice approach allows preferences to be represented as real-valued utility functions. Economic decision making then becomes a problem of maximizing this utility function, subject to constraints (e.g. a budget). This has many advantages. It provides a compact theory that makes empirical predictions with a relatively sparse model - just a description of the agent's objectives and constraints. Furthermore, optimization theory is a well-developed field of mathematics. These two factors make rational choice models tractable compared to other approaches to choice. Most importantly, this approach is strikingly general. It has been used to analyze not only personal and household choices about
traditional economic matters like consumption and savings, but also choices about education, marriage, child-bearing, migration, crime and so on, as well as business decisions about output, investment, hiring, entry, exit, etc. with varying degrees of success.
In the field of political science rational choice theory has been used to help predict human decision making and model for the future; therefore it is useful in creating effective public policy, and enables the government to develop solutions quickly and efficiently.
Despite the empirical shortcomings of rational choice theory, the flexibility and tractability of rational choice models (and the lack of equally powerful alternatives) lead to them still being widely used.[16]