Why Giving Christmas Gifts Is Inefficient

The best laid plans of economists are often undone by Christmas. Every year across the developed world, the tail-end of the year sees a drastic rise in consumer spending. According to economic logic, this is not done for any practical or rational reason. This disruption can, however, be traced back to some quirky and irrational belief in a birth of a particular individual in a rather nondescript Palestinian town. It’s as if consumers just suddenly and inexplicably lose their rational, profit-seeking motives and brush aside utility-maximization.

I can imagine that corporate sales analysts are equally perplexed. Inundated with a completely baffling consumer phenomenon, corporations thankfully respond with flexible hiring policies, temporary contracts and below-market pay to plug the temporary gap.

The carefully-crafted efficiency of markets is completely abandoned! Christmas habits provoke so much waste in our otherwise exemplary systems.

Aside from Santa Claus – who, as reports go, singlehandedly causes a massive spike in the assets of pre-productive members of society – it is gift-giving that ruins all of our best models. Sure, economists factor in an arbitrary percentage point rise in every consumption model for the November-December period but it’s hardly scientific. Why would the majority of households in this country (and it’s not even conveniently delineated by religious declarations anymore) choose to revoke the centuries-old and highly market-efficient mode of monetary exchange for the primitive and often highly value-lopsided bartering system?

This Christmas morning bartering – most often observed in popular culture as unequal exchanges between adults and their unproductive offspring – presents so much loss in the market system. Gifts, after all, do not perfectly match up to the receiver’s needs due to preference heterogeneity – how different people value different things according to different desires. For instance, I could gift my 6-year old nephew $100 worth of toys or $100 in treasury bonds. Inexplicably, even though $100 worth of toys would quickly devalue and has no appreciable economic utility, Lil’ Jimmy would even refuse my thoughtful gift of t-bills! What an (price) insensitive little brat!

This handily illustrates what economists call ‘deadweight loss’ – the gap in the utility between $100 worth of toys and $100 in treasury bonds (which could then be cashed in and, possibly, used to buy those economically useless train sets he’s so fond of).

Logically, the most efficient gift is cash. Gifts are, taken as a whole, a form of economic redistribution from wealthier individuals to various dependents. Christmas gift-giving, if taken this way, is a form of societal redistribution – but without the inefficient government! But because gifts of cash (or stock, bonds, t-bills, and other perfectly legitimate forms of monetary compensation) are often frowned upon – the barter system and its irrationality again – perhaps gifts should do something to address the problems of imperfect knowledge.

Perfect knowledge is assumed in the most basic forms of free market modeling – the individual knows exactly what the individual wants – and everyone acts, rationally, on that assumption. Reality is, unfortunately, far more complex. No matter how hard an economist tries, the real world insists on being ignorant.

Gifts work, sort of, to redress this imbalance as in “I got Lil’ Jimmy something he never knew he even wanted!.” By giving Lil’ Jimmy these t-bills I am addressing his imperfect knowledge in the long run by gifting him the most precious economic commodity of all. Sure, I run the risk of deadweight loss – especially if Lil’ Jimmy doesn’t have an efficient portfolio – but think of all the future investments Lil’ Jimmy can make! I’m not saying that I truly know what Lil’ Jimmy really wants – but I do – I’m saying that now, with an increased knowledge of market possibilities, Lil’ Jimmy can make a more informed decision. The less Jimmy knows about his gift, the greater the potential reward!

Better than toys, am I right?

Photo Credit: Flickr