Monthly Archives: April 2005

49 – Cultural differences

Some observations from a visit to the USA. Interesting differences in crowd behaviour and patriotism.

International travel really helps highlight some of the things we take for granted, including the ways that people behave. Here are a couple of observations from my visit to the USA this week.

I attended a conference on salinity in Riverside California. There were a lot of Australians there (around 10% of the delegates), and on April 25, we held an “Australian night”. There was free beer, wine and Australian food provided by sponsors for people at the conference. Several of us were lined up to give very brief talks about salinity in Australia through the evening. However, it quickly became apparent that these talks would be very difficult, because our assumptions about norms of behaviour were wrong.

In Australia, once someone started to address a crowd in a context like that, people would pretty much stop and listen, especially if they belonged to a host organisation that was providing a free feed. Not absolutely everybody, of course, but in general it would be reasonably quiet while speakers had the microphone. Not in the US apparently. Only about a quarter of the crowd made any attempt to listen, and the rest pretty much carried on yacking and laughing at full volume. The formal speakers were pretty well inaudible. The Australians in the crowd became quite agitated about it, and felt a lot of sympathy for the people trying to speak. Some were saying things like, “This is really rude”, but the Americans seemed oblivious. It wasn’t that the talks were too long or boring. They were just a few minutes and not at all technical, but the noise never let up.

The former Premier of South Australia, John Olsen, was our MC for the night. He reassured us that it was nothing to worry about — that it was completely normal — that it didn’t mean there was anything wrong. He said that he had introduced talks by many high profile Australians in the US, including movie stars who are household names, and the only time he had seen the audience listen silently was for Rupert Murdoch. Americans respect power, apparently.

Despite our discomfort, our guests at the event did seem to have a great time. They kept telling us what a great time they had had and how much they appreciated it over the remaining two days of the conference.

The second observation wasn’t surprising to me, but sill notable. John Olsen said a few words about ANZAAC day. He explained the significance of the day, and played some footage of Australian soldiers on beaches and in trenches during World War 1. For this, thankfully, the audience was quieter. Then John said that Australia had stood behind the US in every conflict since 1900. This was calculated to push the buttons of the mainly US crowd, and it didn’t half work! They cheered and clapped wildly, and many of those who weren’t already standing stood up.

I can’t speak for every Australian there, but some of us were troubled by this, to say the least. It seems so clear that there is little to cheer about, and much to be sad or even ashamed about, in what has gone on with Iraq (and for that matter in Vietnam before that). The American reaction was just too gung ho. Too mindlessly patriotic. Too oblivious to the incredible damage and suffering they (and we!) have inflicted on innocent people. John Olsen’s comments were calculated to please, but it didn’t feel at all right to make them when such a large proportion of the Australian population has opposed the invasion and Australia’s involvement in it from the start.

David Pannell, The University of Western Australia

48 – Thinking like an economist 15: Economics and happiness

Richard Layard is an economist who works on happiness. He is interested in which factors are positively related to it, and what governments should do with that knowledge. His findings partly reinforce the old saying that money can’t buy happiness, at least at the scale of comparing countries, but the story is actually more complicated than that.

There was a fascinating interview on ABC Radio National last week. It featured Professor Richard Layard of the London School of Economics, talking about his work on the determinants of human happiness.

“We have this extraordinary paradox, that although we are now two or three times richer than we were 50 years ago, we are no happier.”

Apparently, money can’t buy you happiness. Actually it’s more complicated than that. Layard notes that the international survey evidence shows that at incomes below about US$20,000 per year, increasing overall national income is positively related to average happiness. Above that level, average income makes little difference to average happiness.

There is another way in which more money can be better: it allows you to climb the wealth ladder in your country. No matter what the average income in a country, people who are relatively well off are, on average, happier than people who are relatively poor. This applies at high average income levels as well as low. People seem to care a lot about their relative income, sometimes more than their absolute income. There is some experimental evidence showing people being willing to take a lower income if other people took even greater cuts!

One explanation for this (proposed in a book called Social Limits to Growth by Fred Hirsch) is that some important goods are in fixed supply, including some environmental goods (e.g. views) and some social goods (e.g. status). So increasing average incomes simply results in the price of those goods being bid up. They are always bought by more-or-less the same people (those in the high-income brackets), so nobody gets happier.

So here’s Layard’s overall summary:

“In every society, extra income makes an individual happier. The effect however is much bigger in poorer countries than the richer ones, because you’re nearer the breadline. It’s also true that in poorer countries, as they get richer, the country as a whole gets happier, and that is why those Third World countries which are still way behind the First World, are less happy than the First World countries. But it’s in the First World countries that we don’t see the increase in happiness as they get richer, because it’s become less important and comparisons [of relative incomes within their country] have taken over.”

If you think about this, it has major implications, including for government policy. Another finding with policy implications is that it is much easier to raise the happiness of really unhappy people than of already happy people. Common sense really, but it takes someone to point it out.

For those with enough wealth already (everyone reading this, I would guess), the key determinants of happiness are relationships and mental health with contributions also by physical health, a sense of purpose and/or spirituality, residential mobility, and so on. The importance of relationships inside a family is pretty self evident, but even at a more macro scale it matters. A survey question that has been asked in many countries now over many years is “Do you think most other people can be trusted?” There is a strong trend that the greater the number of people in a country who answer “yes”, the higher the average happiness rating for the country.

Of course there is much more to the issue than these few points. Some of it is covered in the transcript, which is here. I’ll be buying the book.

David Pannell, The University of Western Australia

Further Reading

“Happiness: Richard Layard at the LSE” (transcript of interview with Andrew Marr of the BBC). www.abc.net.au/rn/talks/bbing/stories/s1349351.htm (link now dead).

Layard, R. (2005). Happiness: Lessons from a New Science, Penguin.

Hirsch, F. (1976) Social Limits to Growth, Harvard University Press, Cambridge Mass.

47 – Thinking like an economist 14: The sunk-cost fallacy

People are very susceptible to feeling that past expenditures matter in current and future decisions. If you’ve spent a lot of money on something, wouldn’t it be a waste of that money not to use that thing? This sort of thinking can lead us into the “sunk-cost fallacy” and it can cause us to do things that are really not in our best interest.

Whenever Pauline and I go fishing together, there is a fair chance we’ll end up having a conversation about sunk costs. It goes like this.

David: ‘There are no fish here. Let’s go home.’

Pauline: ‘But give it a chance. You’re so impatient.’

David: ‘We’ve been giving it a chance for an hour and a half, and so far I’ve caught a piece of seaweed, and you’ve hooked my shirt.’

Pauline: ‘But it took us over an hour to get organised and down here. All that effort to get the fishing gear together, make a flask of coffee, get changed, drive to the shop, buy the bait, drive down here to the beach, rig up the fishing lines, and you want to give up already!’

David: ‘Those are all sunk costs. They shouldn’t have any effect on our decision to stay or go.’

Pauline: ‘Oh, sunk schmunk! Bloody economists!’

Pauline feels that the effort and expense that we’ve already invested in catching fish is quite relevant to the decision to stay or go. And she is far from being alone in feeling that sunk costs ought to matter. Would they matter to you? Consider these two scenarios.

  1. David’s enthusiastic praise convinces you to buy the latest Elvis Costello CD. On the way home from David’s house you stop at the music store, shell out good money for the CD, take it home and put it straight on, only to discover that the CD is damaged and won’t play at all. You have kept the docket. Do you go to the store and exchange the CD?
  2. David’s enthusiastic praise convinces you to buy the latest Elvis Costello CD. However, when he learns this, in his delight, David gives you a spare copy that he has just bought. You take it home and put it straight on, only to discover that the CD is damaged and won’t play at all. You notice that the docket is in the bag David gave you. Do you go to the store and exchange the CD?

The evidence is that more people would take it back to the store in scenario 1 than in scenario 2. In scenario 1, you’ve invested more effort and money in acquiring the CD. In a sense, you’ve got more of a stake in it. In scenario 2, you may feel something like ‘easy come, easy go’ (although, admittedly, this might be overcome by concerns about what David would say if he found out).

The tendency to be influenced by what you have already paid is called the ‘sunk-cost fallacy’. It is a fallacy because the additional benefit you gain by deciding to exchange the CD (that is, the benefit of acquiring a working CD) is the same in either scenario. The benefits and costs of that decision are not affected by what costs you have or have not borne in the past. That cost will remain on the negative side of your ledger regardless of whether or not you go back and exchange the CD.

The tendency for most people to fall for the sunk-cost fallacy is well established. In a classic paper called “The psychology of sunk cost”, Arkes and Blumer (1985) randomly distributed different levels of discount to people who were all buying tickets to the same theatre production. They found that people who paid more for their tickets were more likely to actually attend the performance. On average, both groups would have had approximately the same benefits from attending – the pleasure of seeing the performance – which all participants had judged was sufficient to warrant bearing the full purchase price plus the time and expense of getting to and from the performance. Once the ticket had been purchased, regardless of the price paid, the costs of attending consisted solely of the time and expense of getting to and from the performance. And yet people allowed themselves to be influenced by the sunk cost of ticket purchase.

It doesn’t just affect small decision either. Arkes and Blumer noted that that governments can fall for the fallacy in major spending decisions. Once a project has commenced and some money has been spent, even if cost estimates for the remainder of the project skyrocket, it is hard to shut the project down. They give the example of Tennessee senator James Sasser arguing for the continuation of a contentious and expensive infrastructure development, the Tennessee-Tombigbee Waterway Project.

‘Completing Tennessee-Tombigbee is not a waste of taxpayer dollars. Terminating the project at this late stage of development would, however, represent a serious waste of funds already invested.’

A classic expression of the sunk-cost fallacy! Whoever coined the old saying, “Don’t send good money after bad” understood the sunk-cost fallacy.

But it’s hard to fight. Just remember, sunk costs are sunk. By definition, you can’t get them back. Mentally, put them aside when considering where you go from here. Where you go from here is all that really matters.

David Pannell, The University of Western Australia

Further Reading

Arkes, H.R. and Blumer, C. (1985). The psychology of sunk cost, Organizational Behavior and Human Decision Processes 35: 124-140.

Noonan, K. (2004). Interview about The Delivery Man and Il Sogno, “Cool, that’s Elvis Costello”. Courier-Mail (Brisbane), 16 Oct 2004, http://www.elviscostello.info/articles/a-c/courier_mail.041016.php

Power, C. (2004). Review of The Delivery Man and Il Sogno, “Elvis grows up”. Newsweek 1 Nov 2004, http://www.elviscostello.info/articles/n/newsweek.041101.php

46 – Fresh water for Perth 4: post-election wrap up

In the recent State Election for Western Australia, the loser was the political party that made headlines and controversy by promising to build a 3700 km water canal to deliver water to Perth, regardless of the cost. Did the electors have a sudden burst of economic responsibility, or was there another explanation for the result?

A number of people have asked about the recent State election result for Western Australia and how it relates to the watery issues discussed in PDs 39, 40 and 41.

For the record, the Liberal Party/National Party Coalition lost to the Labor party. Did the infamous canal promise of Liberal leader Colin Barnett (PD 40) lose it for them? It would be nice to think that the electorate was astute enough to reject any party that made such a bad election promise. Unfortunately, it probably isn’t so. While the canal didn’t help the Coalition, it seems that on its own it probably did not swing the election result.

I understand that in the last week of the election campaign, the Coalition was at least neck and neck in the polls, if not slightly in front, until an infamous media conference two days before the election. Colin Barnett called the media conference to release the costings of his various election promises. An observant journalist noticed that the numbers in the table provided did not add up to the supposed total. Unfortunately for Colin, the error of $200 million could not be attributed to any incompetent clerk, as he had physically typed the list himself. The tragi-comic spectacle of him desperately denying that there was any error, but eventually conceding that their was, and then trying to claim that it didn’t matter, was the lead item on every news bulletin. The Party scrambled to identify $200 million worth of funding cuts to existing agency budgets (you can imagine how well-considered those were) but the damage was done.

So in my judgement that is why they lost so badly. The electorate was softened up to have questions about Barnett’s economic credentials by the canal debate, and this $200 million error two days before the election seemed to answer those questions.

In some ways it is a shame that a silly and simple error like this, one that anyone could make when under pressure, was enough to change so many votes, when a truly appalling promise that would have cost the State billions was not.

* * *

A month or so after the election, something remarkable happened. The state’s Economic Regulation Authority released a comprehensive draft report on their “Inquiry on Urban Water and Wastewater Pricing”. I’ve not read it yet, but it seems like it might be at least a step in the right direction. It remains to be seen if the Government will accept their recommendations.

David Pannell, The University of Western Australia

Further Reading

Economic Regulation Authority (2005). Inquiry on Urban Water and Wastewater Pricing, Draft Report.