Latest / Behavioral Economics with Fexingo: Decision Making, Bias, and How People Really Spend / How Your Brain Makes You Overpay for Fairness
Transcript
- Lucas: So you're offered a deal: I'll give you ten dollars, but you have to split it with a stranger. You can propose any split you want. If the stranger accepts, you both get paid. If they reject, nobody gets anything. Luna: Classic ultimatum game. And if the stranger is like most people, you better not offer them less than about three bucks. Lucas: Right. The standard economic prediction is that the responder should accept any positive offer — something is better than nothing. But that's not what happens. People routinely reject offers they perceive as unfair, even when it costs them. Luna: And this isn't just a lab curiosity. It shows up in real negotiations, pricing, even how companies frame their algorithms. Lucas: Let's start with the numbers. A 2023 meta-analysis in the journal 'Psychological Bulletin' looked at seventy-nine ultimatum game studies. They found that when the offer is twenty percent or less of the total, rejection rates hover around fifty percent. Flip a coin whether the responder walks away with zero rather than take a lousy split. Luna: Fifty percent. That's massive. And it's consistent across cultures, age groups, even stake sizes. Lucas: That's the part that really surprised early researchers. You'd think if the pot were bigger — say, one hundred dollars instead of ten — people would be more willing to accept a small percentage. But the data says no. A four-dollar offer out of ten gets rejected about as often as a forty-dollar offer out of one hundred. Luna: So it's the proportion that triggers the fairness detector, not the absolute dollar amount. That's a key insight for anyone setting prices or wages. Lucas: Exactly. And neuroscientists have found the mechanism. Using fMRI, they've shown that unfair offers activate the anterior insula — that's the brain region associated with disgust and pain. You're not just making a cold calculation; you're literally feeling insulted. Luna: The same part of the brain that lights up when you smell something rotten or see someone cheat. Lucas: Meanwhile, the prefrontal cortex, which handles rational deliberation, is trying to override that disgust and say 'take the money.' The rejection happens when the insula wins. It's an emotional, not rational, decision. Luna: So when a company uses surge pricing, or an employer offers a lowball salary, they're not just fighting your budget — they're fighting your brain's fairness circuitry. Lucas: And smart companies have learned to work around it. Take Uber. When they introduced surge pricing, customers were furious — it felt unfair to pay triple for a ride just because it was raining. So Uber tweaked the framing: they started showing a 'surge multiplier' and a note that the extra money goes to drivers. That changed the perceived fairness. Drivers, not Uber, got the windfall. Luna: It's still the same price, but now it feels like a premium for the driver's effort, not price gouging. That's a behavioral fix. Lucas: Exactly. And there's a darker side. Some companies deliberately exploit the fairness heuristic to anchor expectations. A furniture store might list a sofa at two thousand dollars, then put it on 'sale' for twelve hundred. The customer feels like they're getting a deal, but the store never intended to sell at two thousand. The high anchor makes the sale price feel fair. Luna: That's less about fairness and more about the anchoring effect we covered in episode fifty-eight. But it uses the same emotional shortcut — the brain wants to feel treated fairly. Lucas: Right. And the ultimatum game shows that feeling fair is not just about the final number; it's about the process. Research by Ernst Fehr and colleagues found that if the proposer is randomly chosen by a coin flip, responders are more accepting of unequal splits than if the proposer was chosen by skill. The randomness legitimizes the inequality. Luna: So how you got the power to propose matters as much as what you propose. That's relevant for CEOs deciding their own compensation, or politicians setting their salaries. Lucas: It also explains why the 'market rate' argument works in wage negotiations. If you tell a candidate 'our offer is based on industry benchmarks,' that external anchor makes the number feel fairer, even if it's lower than they hoped. The process seems impartial. Luna: You know, this reminds me of something I read about the company Gravity Payments. In 2015, the CEO Dan Price announced he was cutting his own salary from one point one million to seventy thousand dollars to raise every employee's minimum wage to seventy thousand. That move was seen as incredibly fair, and the company got massive positive press. Lucas: And it worked because the CEO imposed the sacrifice on himself first. That's the opposite of the typical ultimatum game proposer who keeps the larger share. By taking less, he signaled fairness. Luna: But interestingly, some employees still left. They felt the policy was unfair to high performers who now earned the same as low performers. So fairness is multi-dimensional. Lucas: That's a great point. The ultimatum game simplifies to a single offer, but real-world fairness involves comparisons, effort, and intentions. Economists call this 'inequity aversion' — we dislike unequal outcomes even when we benefit. Luna: And that's why companies need to think carefully about how they communicate pricing, raises, and policies. The perception of fairness can be more important than the actual numbers. Lucas: If walking through the economy with us has made something click, and you'd like to see this show stay ad-free and independent, you can support us at buy me a coffee dot com slash fexingo. That's buy me a coffee dot com slash fexingo. No pressure — just a way to keep the conversation going without commercial breaks. Luna: Yeah, it's a small gesture that makes a big difference for us. And we really appreciate everyone who's chipped in already. Lucas: So back to fairness. One of the most practical takeaways from the ultimatum game is that if you're making an offer — whether it's a salary, a price, or a split — you want to give the other party a sense of agency. Let them feel they have a choice. Luna: Like how some restaurants let you choose the tip percentage on the screen, but pre-select eighteen percent. You can change it, but most people don't. Lucas: Exactly. That's the default effect we covered earlier, combined with fairness. The pre-selected number becomes the anchor, and deviating feels like you're being unfair to the server. Luna: So the lesson is: if you want people to accept your offer, make sure the process feels legitimate, the proportion is reasonable, and the other party has some control. Lucas: And if you're on the receiving end, recognize that your fairness detector might be overruling your self-interest. Before you reject an offer, ask yourself: am I rejecting because it's genuinely bad, or because it feels insulting? Sometimes taking the four dollars is smarter than walking away with nothing. Luna: That's a hard thing to do when your insula is screaming. But awareness helps. Lucas: It does. And one final thought: the ultimatum game is being used now in AI ethics. Researchers are testing whether autonomous cars should be programmed to sacrifice one passenger to save five pedestrians. The fairness reasoning gets complicated. Luna: Because the passenger is the one who bought the car. They might feel it's unfair to be sacrificed, even if it saves more lives. Lucas: Exactly. And the ultimatum game shows that our fairness instincts are deep and sometimes irrational. So when we program AI, we have to decide which version of fairness we want to encode. That's a conversation for another episode. Luna: For now, next time you're in a negotiation, remember the twenty percent rule. And maybe don't let your insula make the final call. Lucas: Fair enough.