On Thu, Sep 8, 2011 at 11:01 PM, Kragen Javier Sitaker <[email protected]> wrote: > > > > > People make consumption decisions to maximize utility, not a > > hypothetical ROI, > > People make consumption decisions irrationally, not to maximize a hypothetical > utility. Any number of experiments in behavioral economics have demonstrated > this by now. >
I'd say that many characterizations of individual decisions as irrational are precisely a result of narrowly defined utility functions. Saying that the rational decision in buying shoes should be based just on ROI as you calculated, for example, makes anybody with a strong preference for expensive purple shoes invariably seem irrational, even though that person was only maximizing his utility. If you allow for the fact that everyone has a unique way of measuring utility, individual decisions wouldn't seem quite as irrational anymore. > > which should really only be used for financial investments, not consumption > > spending. > > Perhaps I'm economically naive. Why is consumption spending special? It is in fact financial investments that are special: people make all decisions to maximize some (usually multivariate) utility function. For most financial investments, however, this utility comes almost entirely from ROI, so it's a valid simplification to maximize only ROI, thereby maximizing utility as well. As long as I'm maximizing returns, I don't quite care if I'm investing in a Vanguard fund or a Fidelity fund, in equities or bonds, locally or internationally. Not true for my shoes. > > > it *never* wears out or depreciates. You can probably find investments with a > > > 3% ROI in almost any economic times and at almost any scale. > > > > Any number of hedge fund managers would beg to differ, I'm sure! > > Can you elaborate? There are few short-to-medium term risk-free investment opportunities in the US that will fetch an absolute 3% return currently. Were such an investment available, especially "at almost any scale", US treasuries wouldn't be nearly as widely held, given their current near-zero yields ( http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yield ). - Venkat > > Kragen >
