Behavioural Economist Explains Why We Struggle to Make Rational Decisions

Every day, we make hundreds of decisions – from trivial choices like what to have for breakfast or which clothes to wear to more significant ones concerning career, family, investment, or housing purchases. Often, our decisions seem rational, based on calculations and logic. However, is that actually the case?

Experts in behavioural economics argue that our choices are often shaped by emotions, social habits, and the influence of others, even more than we realise. We buy things we do not need, make financial decisions that do not serve our best interests, and even when we understand global issues like climate change, we hesitate to take action. So why does this happen? Dr Laura Galdikienė, a researcher at the Faculty of Economics and Business Administration of Vilnius University (VU), and her team will explore these questions at the first Laboratory of Economic Behaviour in the Baltic States.

Research advancing the region’s economy

Dr Galdikienė recalls that during her Bachelor and Master studies in economics, she was not entirely convinced by the assumptions of classical theory. She felt traditional economics did not always reflect human behaviour accurately and that classical models – which assume that people are rational and self-interested – did not always align with reality. According to the economist, people often act altruistically, make sacrifices, and choose options that are not purely driven by self-interest. As a result, behavioural economics became her major professional discovery.

Dr Galdikienė consciously chose a doctoral research topic she had never explored before, making it a new challenge. ‘Although most doctoral students choose topics they are already familiar with, I felt that our professional lives are too long for one career, and I didn’t want to get stuck in the same field of financial economics. That’s why I chose a completely new direction, which I still enjoy today,’ she said.

The economist is pleased to see growing interest in the studies of economic behaviour in Lithuania. One of the most significant acknowledgements in this field is the establishment of the Laboratory of Economic Behaviour at Vilnius University – the first of its kind in the Baltic States. This laboratory will serve as a research centre of international importance, conducting innovative studies that will not only strengthen Lithuania’s economy but also have a long-term impact on the entire Baltic region. This initiative is expected to provide a major boost to regional economic growth and innovation.

Real money in economic experiments

Compared to laboratories in other scientific fields, the economic laboratory stands out in several aspects. ‘Two strict rules apply in economic experiments: researchers cannot lie to participants, and economic experiments are incentivised, so it means that we pay participants for taking part, but we also encourage certain behaviours. In the laboratory, we conduct experiments using real money, as hypothetical decisions often differ significantly from those made in real-life situations,’ explained the researcher.

Research in this laboratory will cover a wide range of topics, from auctions and market simulations to practical experimental games to assess financial decision-making and the factors that influence it. For instance, researchers will study altruism, trust, and other prosocial behaviours, as well as how other people can shape our financial choices. However, the primary focus will be on the main topic – decisions related to climate change.

According to Dr Galdikienė, climate change is one of the most pressing global challenges today, which should be addressed by global efforts, including research. She argues that our concerns about this existential issue must extend much further. Climate change is not just a matter for the physical and natural sciences – it is deeply connected to social behaviour, political measures, and human motivation.

‘A stable climate is a public good, yet people often assume that someone else, rather than themselves, will take responsibility for addressing this problem,’ noted the researcher.

So why do we still struggle to take effective action despite our clear understanding of climate change? Dr Galdikienė believes that one of the main obstacles is insufficient intrinsic motivation and behavioural change. To address this, the new laboratory aims to explore human behaviour in relation to climate change: Why do people refuse to support environmental taxes? How does environmentally friendly behaviour develop and spread? And to what extent do the choices of others shape our own decisions?

Small fines can have the opposite effect

Have you ever wondered why parents are often late to pick up their children from a nursery and how this behaviour could be changed? It turns out that this issue reflects not only personal habits but also broader social phenomena. An experiment introducing a small €5 fine for such delays revealed an unexpected shift in parental behaviour – they started coming even later, without any guilt.

‘People are less likely to be late when they have intrinsic motivation – a sense of guilt for disappointing the teacher, whereas when a small fee is introduced to quantify that discomfort, it displaces that inner motivation. To change this, we either have to impose a large fine (for example, reaching €100) or do nothing, allowing people to retain their internal guilt,’ explained the researcher.

This example demonstrates that, in some cases, small external incentives, such as fines or fees, may not have the intended effect.

This finding is also confirmed by another behavioural economics experiment on blood donation. Research has shown that when donors were offered financial compensation to encourage blood donation, their behaviour changed – they started donating less. The selfless desire to help others was lost when a monetary reward was introduced. People started perceiving their donation as a purely financial decision, which altered their attitude toward it.

‘Today, scientific research says that we shouldn’t pay for activities involving intrinsic motivation. It is especially important to keep this in mind when developing state policies that rely not only on material incentives but also on people’s internal motivations,’ stated the economist.

What actually increases employee motivation and productivity?

When it comes to work behaviour, Dr Galdikienė notes that employee motivation and productivity do not always depend on remuneration. Although laboratory experiments show that increased monetary incentives boost productivity, Israeli economist Uri Gneezy’s field experiment has revealed that when people receive unexpected rewards for their work (larger than initially agreed upon), their productivity increases only temporarily and soon returns to the initial level. This suggests that the effect of money is temporary. Meanwhile, other experimental studies have shown that changes in work organisation, such as hybrid work or taking breaks, can have a more significant impact, sometimes even increasing job satisfaction without reducing productivity, especially for high-skilled employees. However, hybrid work may have a detrimental effect on the productivity of lower-skilled workers.

According to various studies, this motivational mechanism works particularly well for women, who are often responsible for household duties. Therefore, flexible working hours, the ability to work remotely, or certain comforts at the workplace can increase women’s motivation and help them balance their personal and professional lives. This often leads to higher productivity, as when people feel comfortable and able to control their work and leisure time, they can become more efficient.

Moreover, Dr Galdikienė also recalls an interesting study on the work environment that debunked the myth that women are less likely to compete for leadership positions than men. Research conducted in different communities has shown that both women’s and men’s competitive behaviours depend on social norms. In matriarchal communities, women compete more intensely for dominant positions than those in patriarchal societies. This shows that competition and the desire to reach the highest positions depend not only on individual or physical traits but also on the environment in which we live.

‘It means that women’s lower competitiveness is not innate but a socially and culturally imposed construct. The social norm for women is to avoid competing too much, especially with men. They can compete quite a lot with other women, but not with the opposite sex. In fact, much of our behaviour is defined by the desire not to stand out or deviate from the crowd,’ added the economist.

The herd mentality creates economic bubbles

We often act according to common social norms and standards of behaviour, whether it is about saving, investing, or consuming. ‘If your friends are consuming or displaying their status through luxury items, you’re more likely to do the same; if your friends are frugal and invest, you’re also likely to do so; while if they are ‘green’, you’ll also probably choose a sustainable lifestyle,’ said the researcher.

She explains that this ‘herd effect’ has macroeconomic consequences, causing market bubbles when excessive interest in specific sectors creates a gap between their market evaluation and actual value. For example, there are signs of a technology sector bubble in the current financial market as companies in this field are reaching new heights in their stock prices.

Another significant cultural norm that has a great impact on our financial decisions is trust in others. Research shows that a high level of trust within a country promotes economic growth and higher income levels because people are more likely to invest and cooperate when they have confidence in each other. This positively impacts entrepreneurship, financial system development, and overall economic stability. However, trust can vary depending on historical and cultural factors: in countries where slavery (e.g. in Africa) or significant conflicts prevailed, trust levels tend to be lower, which negatively affects economic development. In contrast, in Sweden or other Scandinavian countries, where trust among people is high, we often observe faster economic growth and better social conditions.

What most often tends to derail our good spending habits?

The Homo economicus model portrays us as logical and self-interested individuals who always choose the most optimal decision. However, behavioural economics research has revealed that, in reality, we make many cognitive mistakes. According to Dr Galdikienė, rational decision-making should be based on opportunity cost analysis, but most people do not consistently do so.

‘For example, if you come across a jacket you need for €200 and find out that it is €5 cheaper elsewhere, you probably won’t think it is worth your while to go out of your way for the small saving. However, if you need a calculator worth €20, and elsewhere it costs €15, the same €5 difference will now seem more significant, and you’re likely to go out and buy for the lower price. If the saved amount is the same, a rational person should make the same decision in both cases, regardless of the item’s value,’ commented the economist.

Another example that the researcher provides concerns so-called irreversible costs. Imagine a situation: you paid for a cinema ticket, but the film turned out to be boring. Nevertheless, people tend to stay until the end, as they have already invested their money, even though it might be more rational to leave and spend the time more usefully. ‘This is called the ‘sunk cost fallacy’, where we tend to follow through with something we’ve already invested in, even though it shouldn’t influence our decisions because the cost can’t be recovered.’

We often fail to make rational decisions due to psychological biases. ‘For instance, we tend to seek information that confirms our pre-existing beliefs (a phenomenon known as ‘confirmation bias’). So, if we’ve decided something is true, we’ll only look for evidence that supports that idea,’ explained the researcher of economic behaviour.

According to Dr Galdikienė, our brains have difficulty grasping probabilities. For example, if the media covers a plane crash widely, we may think that such accidents are more likely than they actually are. Similarly, a conjunction effect or the ‘Linda Problem’ works in this way: ‘If we describe a 34-year-old woman as active, highly educated, and well-read, many would think that she is more likely to be a feminist and a bank employee rather than just a bank employee, although logically, the first option will always be less probable,’ she said.

Another common pitfall we fall into irrationally is discounts and how product information is presented. The first information we receive strongly influences our decisions. ‘Let’s take an example: if we first see the most expensive dishes on a restaurant menu or the largest coffee cups in a café, a medium-priced dish or a medium-sized coffee will seem more attractive. Similarly, if we see items with large ‘discounts,’ we’re more likely to buy them, even though the actual price may still be too high or the item may not really be that necessary.’

How can we protect ourselves from such manipulations? According to the researcher, if you are unsure whether you truly need a particular product, the simplest way is to leave the store and take a breather to think. Sometimes, just stepping back and postponing the decision can provide a clearer picture of what our needs really are. Another practice we often overlook is price monitoring – it is important to check whether discounts are genuine and the price is, in fact, lower than usual.