Scroogenomics: Why You Shouldn't Buy Presents for the Holidays

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scroogenomics

Princeton University Press

Chapter One

Every December brings the same nightmarish vision. It begins at a deserted mall stacked with a million dollars' worth of products. Customers form a perimeter a thousand feet outside the mall. Then, out of nowhere, a red tornado strikes-just the mall and not the crowd-and lifts the clothing and appliances and books and DVDs into the air. As quickly as the cyclone landed, it rises back up to the sky. Then the products rain gently down on the crowd.

"Hey, I got a toaster," says someone in the crowd.

"Look, I got a red sweater, not my size or color," says another.

"Wow, I got a singing fish."

And these are the lucky ones.

Miraculously, no one is hurt, everyone gets something, and neither the building nor any of the products are damaged. But after the thrill of free stuff wears off, people realize that they do not have what they want.

I go around with a clipboard asking people in the crowd how much they would willingly have paid for what they got. A few got things they wanted, or now realize they want after reading the packaging. But most are unenthusiastic about their windfalls. They would not have been willing to pay anything close to the purchase price, if anything at all. When I tally the responses, people are willing to pay an average of twenty-five cents on the dollar of retail price.

I'd like to say you can rest easy because these events never happened. But they did, and they do every year in much of the world. The red tornado is Santa Claus. And despite the warm feelings he evokes in children, his tornado of giving does a perennially poor job of matching stuff with people. In so doing, he destroys a lot of value, just as he turned our million dollars' worth of products into a mere $250 thousand worth of satisfaction for the shoppers encircling the mall.

Every holiday season in the living rooms of families in rich countries we experience something similar to the red tornado, only without the actual funnel cloud. For months before the big day, mothers and fathers-mothers, mostly-run around trying to find the right gifts for their loved ones, young and old. Some gift recipients are easy to second-guess. It takes little imagination to predict that a four-year-old will like a doll or a toy truck. As kids get older, it gets tougher to find a surprise gift that they'll appreciate, but older kids often take out the guesswork with specific requests for this year's fashionably conformist clothes. And then there are the adults for whom we are obliged to get something. We know that Uncle Jim and his wife and kids will be there, so we have to get him something. But what sort of music does your nephew like this year? Does his tongue piercing provide a clue? And grandma's coming. You have no idea what she wants, but-believe me-she has even less of a clue about what you and your kids over seven want.

When the day arrives, families-and extended families-gather around a tree or a hearth or a menorah to exchange holiday gifts. Kids squeal in delight as they open their dolls and trucks. With young children especially, the gifts matter less than the ritual of ripping off wrapping paper and bows. Teenagers feign surprise-for grandma's benefit-and register actual approval for the gifts they specifically requested. They roll their eyes at the music and movies you buy them. Because you've raised them well, they manage a smile for grandma's gifts. What kid doesn't need a candle? But the fabricated smiles aren't limited to the teens. The adults all arrange their faces into expressions of pleasure as they unwrap items they would never buy for themselves. "A cribbage board? You shouldn't have," we tell our mothers-in-law. Indeed.

Christmas provides the occasion for a large amount of spending in predominantly Christian developed countries. In the United States, for example, retail sales during the month of December tower visibly over the volume in adjacent months. In some categories-with familiar Yuletide wares-December sales account for a huge share of the year's sales, over a fifth at jewelry stores, about a sixth at department and discount stores, and about a seventh at clothing, electronics, sporting goods, hobby, and book stores.

What's distinctive about all of this spending is that, except for the prearranged gifts for teenagers, the choices are not made by the ultimate consumers. For the rest of the year, the people who will ultimately use the stuff choose what they buy. As a result, buyers normally choose things they correctly expect to enjoy using. But not at Christmas. As a result, the massive holiday spending has the potential to do a terrible job matching products with users. Throughout the year, we shop meticulously for ourselves, looking at scores of items before choosing those that warrant spending our own money. The process at Christmas, by contrast, has givers shooting in the dark about what you like, recalling the way the imaginary red tornado distributes gifts. To make matters worse, we do much of this spending with credit, going into hock using money we don't yet have to buy things that recipients don't really want.

If you discovered a government program that was hemorrhaging money-say, spending $100 billion of taxpayer money per year to generate a benefit of only $85 billion-you would be outraged. You might even email your elected representatives to demand an end to the wasteful program.

Despite our good intentions, in the private sector we also generate billions less in satisfaction than we could with what we spend. In this book I will show you the size of annual Christmas spending-and the amount that's waste-in the United States and around the world. I'll also show you how present-day Christmas compares to the Christmas of our grandparents, and how we've shifted from saving up for Christmas to maxing out our credit cards to finance the gift storm. I'll make the case that in many circumstances it would be better to not buy presents for the holidays. Finally, I'll point to some solutions that can stop the waste and make holiday giving a force for good.

Chapter Two

Advanced decadence is supposed to be a clue that the End is near. When Romans were holding orgies in rooms with an en suite vomitorium, you could guess that Rome would fall. Walk through a major department store during December. The aisles are blocked not just with panicked shoppers but also with tables covered with "gift items." In the aisles near the men's clothing department, you'll find lots of golf-themed knickknacks-mugs festooned with golf balls, golf club mittens, brass tees, and so on. Would anyone buy this stuff for him- or herself? Does anybody want it? I'll hazard a "no" on both counts. But it's there every year, along with singing fish-and it sells-because of a confluence of reasons that together make a perfect storm for wasteful giving. First, givers are obliged to get gifts for, say, the distant relatives they rarely see but will see this year when they travel to Sacramento for the holidays. Second, givers want to demonstrate their thoughtfulness by choosing items related to their recipients' interests. And third, many people, men especially, are known to play golf. (Husband: "Honey, what on earth should I get for your Cousin Ned?" Wife: "He plays golf." Husband: "Got it.") Hence the golf ball candle, or the golf bag wine holder, for Christmas. Cost to society to make: $10. Value to recipient: $0, minus the pain of the forced smile. Some sort of economic apocalypse must be around the corner.

Every year between Thanksgiving and New Year's, newspapers run stories about whether retail spending is on track to beat last year's spending. Is it turning out to be an impressive or a disappointing holiday season? These news articles take the implicit-and often explicit-view that more spending is better. It is true that more spending creates more jobs for workers, more revenue for suppliers, and more profits for retailers. And these are all good things. But is more spending necessarily good for society? Forget about our corrupted souls, or our overly materialistic children. I mean, is spending good, even from a narrow economic perspective? The surprising answer is no.

Politicians often cheerlead spending. After the 9 /11 attacks on the United States, President Bush encouraged Americans to go about their lives and, in particular, to go shopping. In a September 20 address to the nation, Bush asked Americans for their "continued participation and confidence in the American economy." The theme emerged again in a 2006 speech: "A recent report on retail sales shows a strong beginning to the holiday shopping season across the country-and I encourage you all to go shopping more."

Spending does create jobs, and jobs are indeed a good thing, in a couple of respects. First, the theoretical. Suppose you would be willing to do your job for as little as $10 per hour. If your pay is $20 per hour, then half your paycheck is essentially a bonus. That's a good thing. At a practical level, jobs provide resources for supporting families, and people without jobs are unhappy and sometimes dangerous.

That said, politicians' focus on job creation in justifying spending reflects a blithe disregard for the taxpayers footing the bill. If our goal were simply to create jobs, we could accomplish that without producing a good or a service of any value. Workers could dig holes, then move them around. Or they could build bridges to remote Alaskan islands.

Spending doesn't justify itself, so how is spending normally good for society? A buyer comes into a store and sees a music CD for $15. He buys it only if he expects it to provide a benefit worth more than $15. The difference between the buyer's valuation and the price is a surplus for the buyer, and it's the way that the transaction improves the buyer's life. This surplus is a big deal. When your child is crying all night with an ear infection, you would be willing to pay hundreds or thousands of dollars for a cure. And thanks to modern science, the cure-usually an off-patent antibiotic like amoxicillin-is available for about $20, depending on the co-pay. When you pick up the prescription at the pharmacy, you get a lot of surplus satisfaction out of the transaction.

Assuming we know what we're getting ourselves into, every purchase we make reflects a decision that the value of the item to us-the buyers-exceeds its price. And the difference between our valuation and what we pay is the "consumer surplus" from the transaction.

Walk into a classroom after an economics lecture: both because many economists don't erase and because many lectures feature a demand curve, you'll usually see a diagram with a downward-sloping line. Points along the line represent the most that different people would be willing to pay for a product, ordered from highest to lowest willingness to pay. For example, suppose that Bob is willing to pay $10 for a book, Suzy is willing to pay $9, Ravi is willing to pay $8, and Miguel is willing to pay $7. If the book's price is $7.50, then three of them (Bob, Suzy, and Ravi) buy it. They are each willing to pay more than the price, and their collective willingness to pay ($27) exceeds the amount they collectively pay ($22.50) by the consumer surplus of $4.50. If-as is the case here-the demand curve is a straight line, then consumer surplus is a triangle below the demand curve and above the price. The size of this triangular area represents the amount of consumer surplus, and it's what makes transactions beneficial to consumers. It's the sense in which spending is good, for consumers.

The peculiar thing about consumer surplus is that, unlike the revenue that the sellers get, it does not show up in government statistics. The revenue for amoxicillin does, but most of the parental relief does not. Of course, consumer surplus is related to revenue. When excitement about a product increases-say, we all get interested in iPods-then the demand curve shifts right, and both revenue and surplus increase. But ironically, it's also possible for prices to fall, say because of competition or technological progress, sending the revenue from a product down even as consumer surplus from the product rises. Good examples include penicillin and polio shots. They continue to have enormous benefit, but they are cheap to make. As a result, they generate lots of consumer surplus but little revenue compared with their benefits.

When we make our own consumption choices, we buy only things that will give us back more satisfaction than we pay, that is, more than the price. For example, when I buy myself a $50 sweater, I buy it only if it's worth at least $50 to me. Gift giving severs the link between the buying decision and the item's value to its user, calling to mind the adage that the road to hell is paved with good intentions. When you buy me a sweater, despite your good intentions and despite how much I like you, I may dislike the sweater. At worst, it may be worth nothing to me. Because I did not choose the sweater, there's nothing to guarantee that I will value it above the price you paid. And if I value that sweater below its $50 price-and its $50 cost to society-then rather than creating value, the transaction actually destroys value. For example, if the sweater is worth $25 to me, then giving me the sweater (which cost society $50 to make) reduces society's good fortune by at least $25. You would certainly walk away from an investment opportunity that promised to turn a $50 initial investment into $25. (If not, have I got a deal for you!)

We've all had this experience. From about age ten on-when we first develop well-defined preferences-we endure receiving gifts that we do not like. To make matters even worse, we are obliged to pretend to be grateful.

The cost of getting the wrong thing is actually a bit worse, as is illustrated by a memorable television commercial for V8 vegetable juice drink. After buying and sipping some other drink-not V8-the actor smacked himself on the head and exclaimed, "I could have had a V8." Head slaps are always funny, so this commercial nicely illustrates the true cost of the choice, what economists term "opportunity cost."

Lemonade and V8 each cost $1. Bill likes V8 so much that, if necessary, he would be willing to pay $2 for a V8 but only $1.50 for lemonade. But-perhaps because of an earlier head injury from smacking himself-Bill sometimes forgets that he prefers V8. What is the cost of his mistaken choice of lemonade? It's $0.50, the difference between the value of the satisfaction he could have bought with V8 and what he did buy with lemonade. Even though Bill gets $1.50 worth of satisfaction from his $1 lemonade, his mistaken choice causes him to miss out on $0.50 in additional satisfaction at the same price. In short, Bill's choice of lemonade destroys $0.50 in value.

Let's return to our government programs to see these ideas in action. These programs create jobs. How can they be bad? They can be bad in the sense that the spending to execute them could have been used to purchase something more valuable to the citizenry. Suppose we need a new school more than we need a new bridge. If each costs $50 million, but the benefit of the school is $75 million while the benefit of the bridge is $25 million, then building the bridge would impose a $50 million loss on society.

Huh? How can that be? We spent $50 million and got back $25 million. The worst possible outcome of this decision would be $25 million in waste, you're thinking. But no. That $50 million expenditure could have produced $75 million in benefit, but instead we got $25 million in benefit. Relative to the $75 million benefit we could have had, we got $50 million less. That's how we wasted $50 million. The true cost of a choice, its "opportunity cost," is one of the very big ideas in economics.

(Continues...)

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Excerpted from scroogenomics by JOEL WALDFOGEL Copyright © 2009 by Princeton University Press. Excerpted by permission.
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