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Testing for Rationality with Consumption Data: Demographics and Heterogeneity

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Abstract

In this paper, we introduce a new measure of how close a set of choices are to satisfying the observable implications of rational choice, and apply it to a large balanced panel of household level consumption data. We use this method to answer three related questions: (i) "How close are individual consumption choices to satisfying the model of utility maximization?" (ii) "Are there di¤erences in rationality between di¤erent demographic groups?" (iii) "Can choices be aggregated across individuals under the assumption of homogeneous preferences?" Crucially, in answering these questions, we take into account the power of budget sets faced by each household to expose failures of rationality. To summarize our results we ?nd that: (i) while observed violations of rationality are small in absolute terms, our households are only moderately more rational than the benchmark of random choice; (ii) there are signi?cant di¤erences in the rationality of di¤erent groups, with multi-head households more rational than single head households, and the youngest households more rational than middle age households; (iii) the assumption of homogenous preferences is strongly rejected: choice data that is aggregated across households exhibits high levels of irrationality.

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Bibliographic Info

Paper provided by Brown University, Department of Economics in its series Working Papers with number 2011-11.

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Date of creation: 2011
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Handle: RePEc:bro:econwp:2011-11

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Postal: Department of Economics, Brown University, Providence, RI 02912

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  1. Syngjoo Choi & Raymond Fisman & Douglas Gale & Shachar Kariv, 2007. "Consistency and Heterogeneity of Individual Behavior under Uncertainty," American Economic Review, American Economic Association, vol. 97(5), pages 1921-1938, December.
  2. Richard Blundell & Martin Browning & Ian Crawford, 2005. "Best nonparametric bounds on demand responses," IFS Working Papers W05/20, Institute for Fiscal Studies.
  3. Varian, Hal R, 1982. "The Nonparametric Approach to Demand Analysis," Econometrica, Econometric Society, vol. 50(4), pages 945-73, July.
  4. Jose Apesteguia & Miguel Angel Ballester, 2010. "A Measure of Rationality and Welfare," Working Papers 467, Barcelona Graduate School of Economics.
  5. Richard W. Blundell & Martin Browning & Ian A. Crawford, 2003. "Nonparametric Engel Curves and Revealed Preference," Econometrica, Econometric Society, vol. 71(1), pages 205-240, January.
  6. Stefan Hoderlein, 2009. "How Many Consumers are Rational?," Boston College Working Papers in Economics 748, Boston College Department of Economics.
  7. Raymond Fisman & Shachar Kariv & Daniel Markovits, 2007. "Individual Preferences for Giving," American Economic Review, American Economic Association, vol. 97(5), pages 1858-1876, December.
  8. Bronars, Stephen G, 1987. "The Power of Nonparametric Tests of Preference Maximization [The Nonparametric Approach to Demand Analysis]," Econometrica, Econometric Society, vol. 55(3), pages 693-98, May.
  9. Laurens Cherchye & Bram De Rock & Jeroen Sabbe & Frederic Vemeulen, 2008. "Nonparametric tests of collectively rational consumption behavior: an integer programming procedure," Center for Economic Studies - Discussion papers ces0801, Katholieke Universiteit Leuven, Centrum voor Economische Studiën.
  10. Mark Aguiar & Erik Hurst, 2005. "Lifecycle Prices and Production," NBER Working Papers 11601, National Bureau of Economic Research, Inc.
  11. Fabrice Talla Nobibon & Laurens Cherchye & Bram De Rock & Jeroen Sabbe & Frits Spieksma, 2011. "Heuristics for Deciding Collectively Rational Consumption Behavior," Computational Economics, Society for Computational Economics, vol. 38(2), pages 173-204, August.
  12. Stefan Hoderlein & Jörg Stoye, 2009. "Revealed Preferences in a Heterogeneous Population," Boston College Working Papers in Economics 745, Boston College Department of Economics.
  13. Syngjoo Choi & Shachar Kariv & Wieland Mueller & Dan Silverman, 2011. "Who Is (More) Rational?," Vienna Economics Papers 1105, University of Vienna, Department of Economics.
  14. Andreoni,J. & Harbaugh,W.T., 2005. "Power indices for revealed preference tests," Working papers 10, Wisconsin Madison - Social Systems.
  15. Gil Kalai & Ariel Rubinstein & Ran Spiegler, 2001. "Rationalizing Choice Functions by Multiple Rationales," Discussion Paper Series dp278, The Center for the Study of Rationality, Hebrew University, Jerusalem.
  16. Timothy K. M. Beatty & Ian A. Crawford, 2011. "How Demanding Is the Revealed Preference Approach to Demand?," American Economic Review, American Economic Association, vol. 101(6), pages 2782-95, October.
  17. Gross, John, 1995. "Testing Data for Consistency with Revealed Preference," The Review of Economics and Statistics, MIT Press, vol. 77(4), pages 701-10, November.
  18. James Andreoni & John Miller, 2002. "Giving According to GARP: An Experimental Test of the Consistency of Preferences for Altruism," Econometrica, Econometric Society, vol. 70(2), pages 737-753, March.
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Cited by:
  1. Halevy, Yoram, 2012. "Parametric Recoverability of Preferences," Micro Theory Working Papers yoram_halevy-2012-20, Microeconomics.ca Website, revised 30 Jun 2012.

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