How Rational Choice Theory Works

Rational choice theory, also known as rational action theory, posits that human beings are rational, self-interested creatures who make decisions based on a reasoned weighing of potential costs and benefits. Rational choice theory strives to make sense of human behavior, particularly in economics, psychology, sociology, and politics.

Rational choice theory dates back to the work of Scottish political economist and philosopher Adam Smith; his 1776 essay An Inquiry into the Nature and Causes of the Wealth of Nations remains highly influential among economists and politicians. As an economic theory, the rational choice perspective helps explain how individual choices are the starting point for social norms and societal progress.

The rational choice economic model rests on three major components. Even as social scientists refine rational choice theories, they remain anchored to these three core principles:

1. 1. Humans are rational actors. Rational choice theorists begin with the idea that people are rational decision-makers. This means that they access good information, rationally weigh the consequences of various courses of action, and determine which choice is best.
2. 2. People act in their own self-interest. Rational choice theorists believe that people root their decision-making processes in self-interest and that they make decisions following a rational calculation of risk versus reward. As a self-interested being, a human’s first priority is to maximize the expected utility of their choices (also known as utility maximization). In other words, they make a choice that will have the most useful consequences in their own lives.
3. 3. The invisible hand of the market guides financial decision-making. Adam Smith used “the invisible hand” as a metaphor to describe the ineffable forces that act upon a free market economy. Smith and other rational choice economists saw the invisible hand as a good thing; they attributed it to the net effect of many people’s individual actions. Under the tenets of rational choice theory, when many rational individuals make choices in their self-interest, society benefits along with the individuals.

The rational choice approach has guided many economic thinkers. Its advantages from an economic and philosophical perspective are:

1. 1. It offers simplicity. Rational choice theory is a straightforward theory. It reduces the overwhelming complexity of human nature into discernible patterns of rational action.
2. 2. It offers testability. Proponents of rational theory claim that the theory itself is empirically observable and testable. While rational choice theory may not always explain economic events, the patterns it illustrates are evident enough to be useful for reliable predictions.
3. 3. It helps explain apparent irrationality. Rational choice theory can help theorists look deeper into a situation to find the rational motives behind seemingly irrational behavior.

While rational choice theory may explain some situations and human actions, the theory also has its limits.

1. 1. It poorly accounts for social behaviors. Rational choice theory fails to describe many social interactions, which tend to hinge on emotion and group behavior.
2. 2. It takes a limited view of collective action. Rational choice theory is anchored to individual preferences and behaviors. Yet societies involve complex social behavior, where individuality bows to the collective will of society. This limits the utility of the rational choice theory.
3. 3. It does not account for limited information. Rational choice theory begins with the supposition that individuals have access to all the necessary information for a rational choice. In reality, it’s not always possible to have complete information, thus limiting your ability to act rationally.
4. 4. It underplays the role of external pressures. In the real world, external factors impede people’s ability to make self-serving rational choices. Such external factors can include financial insecurity or family difficulties. Any of these can diminish a person’s ability to act with consistent rationality. The rational choice model does not account for these externalities.

It’s not difficult to see rational choice theory manifesting in the world around you. Consider these three examples.

1. 1. Consumer goods: People make rational choices when consuming goods such as clothes or vehicles. If presented with two items of more or less the same quality, most people choose the cheaper option since it saves them money. This exemplifies rational thinking in action.
2. 2. Relationships: Within a given social sphere, a person’s social capital—their status and connections—offers others a rational reason to form a relationship with them. This is related to the social exchange theory, which views all human relationships in terms of risks and rewards.
3. 3. Political science: Voters may choose politicians based on rational calculations that those politicians will act in their interest. If a candidate pledges to increase ethanol subsidies, a corn farmer might support them because they would stand to benefit from those subsidies. On the other hand, voters may not make rational decisions at the ballot box, perhaps voting against their own interests either for emotional reasons or due to a lack of information.

Get the MasterClass Annual Membership for exclusive access to video lessons taught by the world’s best, including Paul Krugman, Doris Kearns Goodwin, Ron Finley, Jane Goodall, and more.