Economists Do It With Models

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Reader Question: When Is Cash Not King?

September 30th, 2009 · 4 Comments
Behavioral Econ · Econ 101 · Reader Questions

From reader/friend Stephie, via post comments: In honor of your birthday, I request a blog post on the economics of gift-giving. (Yes, that’s right, it’s YOUR birthday so I get to call the shots.) What is the incentive to give a gift when cash is so much easier?

First off, she’s right. It is my birthday. Second, she has a good point. I’ve written before about the potential inefficiency of gift giving, where I referenced a paper entitled The Deadweight Loss of Christmas that shows the efficiency losses in giving specific gifts rather than cash. (Basically, there is a loss of efficiency with gifts if the gift receiver values the gift at an amount less than what the giver pays for it. This of course assumes that the gift-giver doesn’t get more utility out of giving that particular gift than he would giving cash or a gift that the receiver liked more.) I even pointed out that The Office summed things up nicely:

Angela: Gift baskets are… the essence of class and fanciness. They are the ultimate present that a person can receive.

Dwight: What about cash? With cash you can buy whatever you want, including a gift-basket, so… it’s kind of the best gift ever.

Jim: What about a gift basket full of cash?

Andy: Yes! Cash-basket! Nice work, Tuna.

However, Stephie’s question was about what incentive there is to give a gift rather than what incentive there is to give cash. (Clearly there must be an argument to be made in this direction, since why else would gift-giving persist?) One explanation is that giving a specific gift does in fact confer some level of utility (read, amusement) on the gift-giver. To illustrate this possibility, I give you a photo of what I received today in the mail from my mother:

I think it’s pretty clear that I wouldn’t have actually gone out and purchased any of these items. But I assume that my mom is trying to make a point, namely that I should be celebrating in some fashion. (Don’t tell her that I am sitting here at my computer.) And being adorable makes her happy, so perhaps this makes up for the fact that I wouldn’t have bought these items myself.

It could also be the case that gifts are used as a form of signalling. As such, I give you Exhibit B, given to me by a somewhat artistically-inclined friend:

Okay, I suppose this requires some explanation. First, no, I was not trying to clean Gizmo’s ears. He’s just a weird dog that has figured out how to open the lid on the trash can. Second, that is a flower made out of Laffy Taffy, and it’s AWESOME. See, I don’t much care for flowers (I mean, I like them in the wild, I just don’t need them in my house), but I am kind of in love with Laffy Taffy. But I digress. The point is that the gift makes an effective signal of “I care” because it presumably took some effort to come up with this. In economics, we say that “only costly signals matter.” What this means is that a signal has to be difficult or costly to imitate in order to convey information. It’s really just another way of saying that “talk is cheap”- anyone could say that he cares, but only those that actually care would find it worth it to put forth the effort. (Note that the signal could be conveyed through effort or other means, such as communicating that you’ve been paying enough attention to know what the giftee would want!)

One other note- as I wrote about earlier here, in-kind gifts could be more useful than cash for people who engage in various forms of mental accounting in order to combat self-control problems and the like. Say, for example, that a person has a rule of “I will never pay more than $30 for a bottle of wine.” It could very well be the case that a $50 bottle of wine is worth more than $50 to this individual, but he won’t buy it because of the rule that he has set up for himself. Therefore, a gift of this $50 bottle of wine would be a “better” gift for this person than $50 cash.

Happy now? You’re welcome. Feel free to direct all birthday gifts to P.O. Box 380950, Cambridge, MA 02238. =P

Tags: Behavioral Econ · Econ 101 · Reader Questions

4 responses so far ↓

  • 1 Justin // Sep 30, 2009 at 10:06 pm

    Ariely also covers the whole gift versus cash issue in Predictably Irrational. His example of offering to pay his mother in law for Thanksgiving dinner is quite funny.

  • 2 Hank // Oct 1, 2009 at 8:31 am

    No matter what the efficiencies of giving cash are, it screams that you do not know that person very well and what they would like as a gift. And, it begs the question, if you don’t know them that well, should you really be giving them something? Can you just save the $50 instead?

  • 3 econgirl // Oct 1, 2009 at 1:29 pm

    @ Hank: That is exactly the signalling argument that (partially) justifies giving a gift rather cash. I would argue, however, that giving cash could also signal that you are an economist. 🙂

    A number of years ago, I received a fairly heinous (yet somewhat pricey) ceramic bird from my (at the time) boyfriend’s mother. I can thus give at least one data point in support of the fact that saving the $50 is sometimes preferred.

    @ Justin: This is why it doesn’t shock me that economists are typically thought of as being socially awkward. =P

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