College of LAS « Illinois

Economics

The Economics of Santa and Prison

Economist demonstrates how an important principle applies even in unlikely scenarios.

prison

Put yourself in Santa’s boots. You’ve got a problem: Your production and delivery systems are the stuff of legend, but you’re no mind reader, and somehow you’ve got to distinguish good kids from naughty ones.

The solution? Ask them to be good for long enough. Distinguishing naughty from nice will ultimately come down to a matter of economics, says Dan Bernhardt, a professor of economics and finance at the U of I, who studies how information affects all variety of decisions.

The longer you ask a child to be nice, the more likely a naughty one will decide that acting good isn’t worth all the fun she’s missing. She’ll land herself on the naughty list, and voilà, there’s one less gift to squeeze down the chimney.

At the same time, however, even a goody-two-shoes will crack if asked to be good for too long, so Santa’s demands can’t be too excessive.

Despite the, er, unsubstantiated elements of this example, you may notice an important principle at play here called the economics of information. Bernhardt uses the concept in his studies of things such as stock purchases and criminal rehabilitation, and he uses the Santa example to help his students understand it.

Late economist and Nobel Laureate George Stigler introduced the economics of information in 1961, when he questioned an old assumption in economics that consumers are fully aware of relevant information in their buying decisions. His proposition that imperfect information or ignorance also plays a role in decision-making led to a new branch of economic theory examining how information affects decisions.

Bernhardt’s work in this area has gained him some attention, including a recent study offering a new perspective on how parole boards should decide whether to grant inmates early release from prison. One of his conclusions, based upon models and analysis, is that parole boards should consider the value of observing a rehabilitated prisoner before granting him early release, and use the information gathered from his behavior to improve future parole decisions.

One drawback comes along the same vein as the naughty kids in the Santa example—if release from prison is too far in the future (or too close), prisoners may decide that efforts to rehabilitate themselves aren’t worth the time, and they’ll eventually emerge from prison less rehabilitated.

In addition to his own studies, Bernhardt has encouraged students to study the economics of information regarding ballet companies (models indicate that long practice and weight guidelines screen out less committed dancers) and tree-planting companies that pay employees in a lump sum at the end of their work period to increase work quality.

“Quite generally, I try to give students offbeat examples from everyday life about the economics of information,” he says.

Fall 2011