What is the Right Amount of Choice?
2 Pages Posted: 12 Aug 2011
Date Written: 2010
A fundamental tenet of neoclassical economics is that more choice is good. More choices expand the possibilities set and can only lead to individuals finding outcomes that they prefer. Many econometric models of choice, such as the standard logit choice model, by definition have error structures that show an increase in welfare as choices increase. Yet what has been apparent to lay-people for many years has become clear to economists as well in recent years: too much choice can reduce welfare. A wide variety of papers in behavioral economics has shown how increasing the size of choice sets can reduce participation in the market. Other papers have shown consumers choosing clearly dominated options in choice environments, particularly the elderly who may face cognitive challenges in making appropriate choices. For example, in recent work with Jason Abaluck, I have found clear evidence that the substantial majority elders choosing prescription drug plans under the Medicare Part D plan do not choose the cost minimizing option. This existing literature suffers, however, from the standard problem with empirical work in behavioral economics: it clearly documents a positive anomaly, but leaves us with little normative guidance as to the policy implications. This research suggests that in a variety of contexts we may want to limit choice but how much? And, if choice is to be limited, should it be limited through simply reducing the number of options, or by restricting the space set in which suppliers can compete to provide a more organized choice framework?
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