Undercover Economist

Six degrees of separation? We can only manage five

Oscar Wilde once commented that a cynic knows the price of everything and the value of nothing. We economists often find this barb directed at us. That is unfair; economists have always argued for an analysis that incorporates the value of everything. It is also ironic, because if new “neuroeconomic” research is correct, economic models manage to incorporate value as well as price, it is the human brain that can’t keep up.

Economists have no problem with the idea that you might value a lazy Sunday afternoon more than a kiss, and a kiss more than a poke in the eye. If so, we say that the utility of the lazy Sunday afternoon is more than the utility of the kiss, which is more than the utility of the poke in the eye. Utility is not an appeal to some warm fuzzy feeling: it’s just a way of describing, in a mathematically convenient way, the fact that you won’t choose the poke in the eye if the lazy Sunday afternoon is on offer. The theory is quite capable of reflecting the range of things that humans value.

In fact, the theory allows for far more subtle discriminations than we seem to be capable of. The human brain simply may not be wired up to deal with lots of different levels of value. A series of psychological experiments, many dating back to the 1950s, shows that we cannot distinguish between more than about five degrees of … well, almost anything: sweetness in a solution; saltiness; the pitch of a note; brightness; the intensity of an electric shock; the length of a line; or the pungency of a smell. The details vary, but the level of consistency is surprising.

Practice does not help. Neither, surprisingly, does varying the gaps in the scale: it’s no easier to distinguish five sounds between “very loud” and “very quiet” than between “fairly loud” and “fairly quiet”. Some people have perfect pitch and can transcend these limits when it comes to musical tones, but there seem to be few other exceptions. No wonder so many reviews use a scale of one to five stars.

Nick Chater, a psychologist at University College London, argues that the human brain doesn’t have an internal scale for these stimuli, nor for “utility” or “value”. Instead the brain makes comparisons: that light was brighter than the previous light. We can just about wrap our minds around the idea of “much brighter” by comparing a recent gap in brightness with some previous gap in brightness. If the brain works in this binary way, it is easy to see why it struggles to compare more than about five different brightnesses – or sweetnesses, lengths, or “utilities”.

When evaluating a meal, we can place it somewhere between “revolting” and “the best food I’ve ever tasted”, with about three intermediate categories. The scale may shift based on recent or otherwise influential experiences with food. This is a problem for conventional economics – and also for fashionable work on “happiness”, much of which asks people to rate how happy they are on a scale of one to seven.

If Chater is right, this might help to explain the housing boom: people were happy to buy overpriced houses, as long as they were not too expensive relative to relevant comparisons – that is, other houses in the area. Certainly, research by Chater and his colleagues, and by the behavioural economists Dan Ariely, George Loewenstein and Drazen Prelec, suggests that our willingness to pay to avoid unpleasant but unusual experiences such as nasty noises or electric shocks, varies markedly, and can be strongly influenced by price cues provided by the experimenters.

All I need now is a way to persuade people that £100 is a perfectly reasonable price to pay for a paperback book.

Also published at ft.com.