The Art of Rational Decision-Making

Economics is generally based on the assumption that people are able to make rational decisions based on weighing all the costs and benefits of something. An individual may take into account things like fixed costs and variable costs. There are opportunity costs. For example, if I decide to go to a concert instead of study for an exam then I probably think that the benefit I get out of going to that concert outweighs the costs of getting a poor grade on the exam. But what if there are costs that I don’t factor into my decision-making? Am I still making a rational choice based on the information available to me? Or am I choosing to ignore certain costs because they’re too abstract or too difficult to quantify?

Very often this kind of problem is the result of external costs, those costs that one doesn’t consider when making decisions, as opposed to internal costs or out-of-pocket costs. For example if I’m deciding whether to drive somewhere or take the tram then I’ll probably compare the price of gas with the cost of, say, a day ticket since those are what I think are the direct costs associated with me getting from A to B. These are the internal costs. All the other things I just didn’t take into account, such as the greenhouse gas emissions or traffic safety and health costs for those along the route I’m going to drive as well as my own health costs arising from my decision for a sedentary form of mobility, all of these things are external costs. And because they are very difficult to quantify they often get ignored as if they just didn’t exist.

Prof. Udo Becker and the Chair of Transport Ecology at the TU-Dresden recently came out with a study contracted by The Greens of the European Parliament which quantifies the external costs of driving entitled “The True Costs of Automobility: External Costs of Cars”. The study makes the important point that the benefits of transportation to a large extent go directly to the individual user. These benefits are internal, they can be observed quite easily since once I’ve arrived at my destination I’ve obviously benefitted from transportation. But the costs often fall on the broader society, which the report defines as “the set of all other people, all future times (generations) and all other regions (countries)” (p.5).

This has a lot to do with equality and means that any time I emit greenhouse gases and other pollutants I don’t pay for the costs that fall on future generations or other folks in other countries – CO2 doesn’t just stay in the city in which it was emitted – due to climate change. I also don’t pay for other people’s asthma or other health-related costs. These are the kinds of costs that the report’s authors recommend be included in policy decisions since they reflect the actual costs of driving and drivers (as well as all other transportation users) need to be able to make rational decisions based on the true costs. The report can be downloaded from The Greens here.

The idea of internalizing the external costs of transportation certainly isn’t a new one. Charles Komanoff, who has a myriad of roles in the environmental and transportation sectors in New York City, has been working on developing and promoting pricing plans for a number of years, particularly congestion pricing schemes for New York City similar to the one in London, which has been in place for ten years now and was highlighted recently by grist. And, finally, the federal gasoline tax is in the news in a poignant New York Times op-ed piece by Dr. Valerie Karplus of MIT.

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