Individuals, by and large, like fairness. We don’t like to be paid less than someone else for doing the same work. We may also feel guilty for getting paid more than someone else for doing the same work. Perhaps it’s our desire for (or belief in) reciprocity that encourages our pursuit of fairness.
But this pursuit of fairness contradicts the usual economic depiction of people as inherently self-interested. The way the story goes, individuals should only care about what is in their own pockets – I can’t buy myself things with someone else’s money, so it shouldn’t matter to me what my neighbor has. I want as much as I can get, regardless of how much others are getting. This may be true in some settings. However, if we maintain this narrow portrait of individuals, then fairness doesn’t matter.
In yesterday’s example, the most logical game theoretic prediction is that Alex should accept any deal Eric offers. Even if Eric keeps $40 for himself, and offers Alex only $10, having $10 (however unfair that may be) is still better for Alex than having $0 (which is what would happen if Alex rejected the deal). If Alex were only interested in his own outcome, he’d take $10 over $0 every time.
Interestingly enough, in countless experiments which play out this exact scenario, economists have found that people reject low offers like this as often as half of the time! Why intentionally lose out on cash? It turns out that instead of the narrow explanation (people only care about their own money), individuals are concerned with much more. They want offers to be fair, and are willing to punish Erics who make unfair offers – even if it comes at their own expense. This type of negative reciprocity persists in experiments, even when the prizes are in the hundreds of dollars. People will turn down large sums of money just to send a message!
As economics has evolved, so too has the role of fairness in economic models. Below is a great discussion from Alex Shaw at Yale on origins and manifestations of fairness.
(HT for the video: SullyDish)