Bounded rationality: concept, author of the theory, main concept and decision-making models

2024 Author: Miguel Ramacey | [email protected]. Last modified: 2023-12-17 06:11

The pioneer in the study of bounded rationality is Herbert Simon. The scientist made a truly invaluable contribution to science and received the Nobel Prize in Economics in 1987. What is the concept of bounded rationality?

What's the point

For a start, to understand the meaning of the model of bounded rationality, you can simply reproduce the process of making purchases in your head. On average, a person walks around a couple of stores in order to compare prices, but usually no more than three or four. Why waste time? And it is unlikely that you will begin to study in depth the assortment in stores across the country in order to find out all the possible offers. But you could save a lot in the course of your analysis! If we generalize what has been said, then this is bounded rationality. That is, the tendency of a person to make decisions based on the study of only a small part of the information received. Simon's concept of bounded rationality has generated a lot of useful research. Let's talk about them briefly.below.

The concept of bounded rationality

Many social sciences define human behavior as rational. Take rational choice theory, for example. Some hypotheses suggest that humans are hyperrational. This means that they never do anything that could harm their interests. And here, in contrast, the concept of bounded rationality is put forward, which just refutes these statements and states that in fact absolutely reasonable decisions are practically impossible. Why? Due to the limited computing resources required to make these same decisions. The term "bounded rationality", as mentioned above, was proposed by Herbert Simon, who devoted a book to the study called "Models of my life". The scientist writes that many people act rationally only in part - they are usually emotional and irrational. Another work of the researcher tells us that with limited rationality in decision-making, an individual experiences problems with the formulation and calculation of complex tasks, as well as with the processing, receipt, and use of various kinds of information.

What can be added to the classical model of rationality

Simon gave in his works examples of such directions in which the model of rationality is supplemented by those factors that are more consistent with reality, while not deviating from the boundaries of strict formalism. Limitedrationality are as follows:

• Restrictions related to utility functions.
• Analysis and accounting of the cost of collecting and processing the information received.
• The possibility of manifestation of a vector utility function.

In his research, Herbert Simon suggested that economic agents use heuristic analysis in decision making, rather than specific rules for applying optimization. This is primarily due to the fact that it can be difficult to assess the situation and calculate the usefulness of each action.

What follows from this

Renowned scientist Richard Thaler put forward a theory directly related to bounded rationality - about mental accounting. This concept will determine the process of keeping records of income and expenses in the human mind. Mental bookkeeping is a multidimensional definition. Here, scientists include the tendency of people to create targeted savings. This means that a person prefers to keep savings in several banks, and most often these are ordinary glass containers, and not financial institutions, as one might think. It is also worth noting that a person will calmly put his hand in a piggy bank, where a small amount is stored, than in a nearby box with larger savings.

Social preferences

Understanding the theory of bounded rationality is also helped by the economic game invented by scientists, which has an unusual name: "The Dictator". Its essence is very simple,Even a child can handle the task. One participant becomes a dictator and distributes the received resources to himself and other players. The dictator can easily keep all the capital for himself, but, as practice shows, most of the players still share with their opponent. Studies have shown that, on average, a dictator allocates about 28.4% of all resources to his opponent. This game vividly demonstrates some inconsistency of the most common economic models: a rational and selfish person would no doubt take all the resources for himself without sharing with others. That is, The Dictator proves to us that the adoption of economic decisions depends on such an important category as justice. Thus, the study showed that fairness is important not only for a particular person, but for the entire economy as a whole.

How it is proved in practice

One can give a simple and relevant example. Companies that raise prices for building materials in areas where a natural disaster has occurred are absolutely rational from the point of view of classical economic theory. However, in fact, there is a huge risk of falling under a wave of aggressive criticism, as a result of which serious public pressure will follow. But even here it is impossible to predict the reaction by 100%. It all depends on how the company's management explains its actions. If they justify the increase in prices with high demand, then a storm of discontent from the public will not be avoided. But if we talk about increased costs, then buyers in most casesrelate to the increase in the cost of products with understanding, because it already sounds fair. Which is very important for making economic decisions.

What about self-control issues

Probably, in the life of almost every third person it happened that he definitely decided to go on a diet, but then somehow suddenly found himself at 12 at night in an open refrigerator. Or he decided to start getting up earlier in the morning in order to have time to do more during the day, but in the end he opened his eyes only at eleven - and again half the day was down the drain … Familiar? There is an economic explanation for such actions. Richard Thaler suggested that in such cases we are not controlled by a rational "planner", but by a lazy "doer". It is also worth noting that at the level of intuition, a person feels this contradiction between the planner and the doer who lives inside. It is for this reason that there is always a demand for things that provide self-control. Such goods include alarm clocks that run away from their owner or “eat” a banknote left in advance if they are not turned off. This human need is inherent in virtually everyone, and manufacturers make great money from it.