Saturday, January 20, 2007

Neuroeconomics of being a spendthrift or tightwad

Why do people run up excessive debt? Why are many in the population tightwads? The Economist reviews an article in Neuron (by Brian Knutson, Scott Rick, G. Elliott Wimmer, Drazen Prelec and George Loewenstein) which provides a possible neuroeconomic explanation.

Economics assumes humans are rational beings so price is a signal that helps decide the combination of choices that suits best. But evidence suggests that decision-making draws on the emotions along with reason.

The role of emotions in traditional tasks such as obtaining food and mates, and in dealing with threats can be explained by neural mechanisms which weigh up pros and cons to produce an optimal outcome. Emotions help prod animals towards optimal outcomes. Then neuroeconomics and economic theory predict the same outcomes. But this may not apply to less traditional choices. Perhaps modern shopping subverts the decision-making machinery and encourages some people to run up debt.

The authors asked 26 volunteers to decide whether to buy various products that were flashed on a computer screen one after another. In each round the researchers first presented the product and then its price, with each step lasting four seconds. In the final stage, which also lasted four seconds, they asked the volunteers to select a product. To make the task realistic two randomly selected sales were real—paid for out of a $40 credit from which the volunteer got to keep the change.

The researchers scanned the brains of volunteers using functional magnetic resonance imaging (fMRI) which measures blood flow and oxygen consumption in the brain, as an indication of brain activity. Different parts of the brain were involved at different stages of the test.

1. Product virtues. The nucleus accumbens—known to be involved in processing rewarding stimuli such as food, recreational drugs and monetary gain, as well as the anticipation of those rewards—was the most active part when a product was being displayed. The level of activity correlated with the reported desirability of the product.

2. Immediate product costs. When the price appeared, however, fMRI reported more activity in other parts of the brain. Excessively high prices increased activity in the insular cortex, a region linked to expectations of likely immediate pain, monetary loss and viewing of upsetting pictures. There was greater activity in this region when the subject decided not to purchase an item.

3. Balancing virtues against costs. Price information also activated the medial prefrontal cortex which is involved in rational calculation and in balancing expected and actual outcomes of monetary decisions. In this experiment its activity correlated with a volunteer's reaction to both product and price, rather than to price alone. The sense of a good bargain evoked higher activity levels here and often preceded a decision to buy.

What is interesting is the separation of a product’s assessment (by the nucleus accumbens) from the assessment of its price (by the insular cortex) though the two are then synthesised in the prefrontal cortex. Rather than weighing the present good against future alternatives, as economics suggests, people balance the immediate pleasure of the prospective product with the immediate pain of paying for it.

That makes sense as an evolved mechanism for trading. If one useful object is being traded for another or for cash, the future utility of what is being given up is embedded in the object being traded. Emotion is then as capable of assigning value as reason.

But buying on credit might be different. The abstract nature of credit cards, coupled with the deferment of payment that they promise, may modulate the ‘con’ in the insular cortex side of the calculation in favour of the ‘pro’. This will be particularly true among spendthrifts who may have lazy insular cortexes!

Further work might test whether people with different spending behaviour, such as miserliness and extravagance, experience different amounts of pain (or show different patterns of brain activity) in response to prices. They will also assess whether, in the same individuals, buying with credit cards eases the pain compared with paying by cash. If it does, then credit cards may have to join the list of things such as fatty and sugary foods, and recreational drugs, that subvert human instincts in ways that are pleasurable at the time but have an adverse aftertaste.

A related nice read from the NYT is here. Spendthrifts have a lazy insula cortex while in tightwads have an overactive one. But tightwads behave irrationally too by uncoupling the comparison of current benefits and financial pain from their rational thinking.

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