Theoretical models of inequality: Examples from rational choice theory and behavioural economics

Abstract

AbstractUsing illustrations from research on inequality, this essay makes a case for ‘behavioural synthesis’, that is the reconciliation between neo‐classical and behavioural economics. Focusing on selected theories of absolute and relative inequality, we first give a brief critique of utilitarian models that emphasize self‐interested income maximization. Their assumptions are then compared to status‐seeking models of competition where income differences are maximized. These are then contrasted to altruism models that consider other‐regarding preferences that encourage less inequality. We emphasize the value of behavioural economic experiments in testing the competing predictions of these models. We conclude that consolidation among assumptions from neo‐classical and behavioural economics is necessary when it comes to understanding inequality and propose strategies on how it can be done. We specifically identify some empirical shortcomings of these key economic theories of inequality: context‐dependency in the Global South, specificity of reference groups and consistency of measurement. We propose several ways forward, including the relaxation of assumptions of rationality in theoretical models and further fieldwork in developing countries.