Frey and Stutzer (2014) on Mispredicting Utility

Bruno S. Frey and Alois Stutzer. “Economic Consequences of Mispredicting Utility.” Journal of Happiness Studies 15: 937–956, 2014 [pdf].

• People systematically mispredict the utility that they will receive from their consumption choices: intrinsic needs (competence, autonomy, and so on) are undervalued, while extrinsic rewards (money, status) are overvalued. 

• Utility mispredictions stem from mistakes concerning hedonic adaptation. Goods that satisfy internal needs are not as subject to adaptation as goods satisfying external rewards. People adapt to higher incomes, but not to commuting – indeed, they become slightly sensitized to the pains of commuting. 

• Frey and Stutzer model misprediction as arising from a change in the salience of an attribute between the ex ante choice to consume a good and the ex post consumption. Extrinsic attributes (salary, say) tend to be more salient than intrinsic features (time with friends) at the time of decision making. 

• Perhaps people adapt less to intrinsic characteristics because they get a reminder with each repetition, they are gifts that keep giving: each additional meeting with a friend brings new joy. 

• People do not adapt all that well to chronic health problems, unemployment, or the death of close relatives. Income increases are adapted to (but only 60% of the hedonic boost is lost). 

• Forecasts of utility are based on memories of past experiences, so the most memorable parts of an experience dominate. This leads to the peak-end rule, where the utility that lives in memory is roughly approximated by the average of the best moment and the quality of the ending. Intrinsic elements often involve duration, which is undercounted in memory. 

• Learning about mispredictions is surprisingly limited. 

• People like to provide a rational accounting for their actions; further, it is easier to explain to oneself and others the advantages of extrinsic dimensions than of intrinsic ones. 

• Markets tend to make prices and related attributes more focal. 

• Commuting time is a negative intrinsic dimension that receives short shrift in decision making. Lower rents and higher income do not, in practice, fully compensate for the pains of commuting, nor do other family members seem to gain from your long commute. Though a long commutes hurts life satisfaction, unemployment is much worse.