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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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References

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  1. James Andreoni & William T. Harbaugh, 2006. "Power Indices for Revealed Preference Tests," Levine's Bibliography 122247000000001257, UCLA Department of Economics.
  2. Stefan Hoderlein, 2009. "How Many Consumers are Rational?," Boston College Working Papers in Economics 748, Boston College Department of Economics.
  3. Laurens Cherchye & Bram De Rock & Jeroen Sabbe & Frederic Vermeulen, 2008. "Nonparametric tests of collectively rational consumption behavior: an integer programming procedure," ULB Institutional Repository 2013/131712, ULB -- Universite Libre de Bruxelles.
  4. Syngjoo Choi & Shachar Kariv & Wieland Mueller & Dan Silverman, 2011. "Who Is (More) Rational?," Vienna Economics Papers 1105, University of Vienna, Department of Economics.
  5. 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.
  6. Gil Kalai & Ariel Rubinstein & Ran Spiegler, 2002. "Rationalizing Choice Functions By Multiple Rationales," Econometrica, Econometric Society, vol. 70(6), pages 2481-2488, November.
  7. 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.
  8. 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.
  9. Richard Blundell & Martin Browning & Ian Crawford, 2002. "Nonparametric Engel Curves and Revealed Preference," CAM Working Papers 2002-04, University of Copenhagen. Department of Economics. Centre for Applied Microeconometrics.
  10. Fabrice Talla Nobibon & Laurens Cherchye & Bram De Rock & Jeroen Sabbe & Frits C.R. Spieksma, 2008. "Heuristics for deciding collectively rational consumption behavior," Center for Economic Studies - Discussion papers ces0824, Katholieke Universiteit Leuven, Centrum voor Economische Studiën.
  11. Richard Blundell & Martin Browning & Ian Crawford, 2005. "Best nonparametric bounds on demand responses," CeMMAP working papers CWP12/05, Centre for Microdata Methods and Practice, Institute for Fiscal Studies.
  12. Raymond Fisman & Shachar Kariv & Daniel Markovits, 2007. "Individual Preferences for Giving," American Economic Review, American Economic Association, vol. 97(5), pages 1858-1876, December.
  13. Mark Aguiar & Erik Hurst, 2005. "Lifecycle Prices and Production," NBER Working Papers 11601, National Bureau of Economic Research, Inc.
  14. 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.
  15. 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.
  16. Jose Apesteguia & Miguel Angel Ballester, 2010. "A measure of rationality and welfare," Economics Working Papers 1220, Department of Economics and Business, Universitat Pompeu Fabra, revised Sep 2011.
  17. Varian, Hal R, 1982. "The Nonparametric Approach to Demand Analysis," Econometrica, Econometric Society, vol. 50(4), pages 945-73, July.
  18. Stefan Hoderlein & Jörg Stoye, 2009. "Revealed Preferences in a Heterogeneous Population," Boston College Working Papers in Economics 745, Boston College Department of Economics.
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Cited by:
  1. Halevy, Yoram, 2012. "Parametric Recoverability of Preferences," Microeconomics.ca working papers yoram_halevy-2012-20, Vancouver School of Economics, revised 07 Apr 2014.
  2. Jose Apesteguia & Miguel Ballester, 2009. "Choice by Sequential Procedures," NajEcon Working Paper Reviews 814577000000000404, www.najecon.org.

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