Tuesday, December 7, 2010

Tipping as an Economic Activity

A brief presentation to prep the class for our discussion about tipping. Note that each image is hyperlinked to its source and that audio only is also available.


  1. I have been thinking about the tipping situation, and I believe a consumer who tips is still acting rationally. The assumptions we held are false. Consider a world full of homo economicus, in such a world, if we hold that the rational thing to do is to not tip, then no one tips. But if no one tips, then no employee would work for jobs such as waiting tables for the same base rate they currently (in a world with tips) are paid. (For most workers in this job just lost 2/3 or 1/2 of their income.) So as supply of workers go down, the wage rate would increase. This would increase the cost of the food for the consumer. So regardless of whether or not tip income exist is negligible, because the end cost of a meal is the same. But it is beneficial for the homo economicus to hold some of the wage in form of tips, because they are more likely to receive better service.

    So our assumption that tips are extra is wrong. One goes into the restaurant knowing that they will have to pay tips. It could be considered a informal contract: by ordering food, the consumer agrees to pay tips as long as the waiter provides the consumer with good service.

    This still leaves one question. There will never be a world where every human being acts rational. So it is in the advantage of the consumer to take advantage of the society of irrational human beings, and cheat, ie not pay tips.

    -Abba Lerner

  2. Thanks for the comment. I can see you have strong feelings on the matter. Here are a few thoughts in response.

    First, economists labeling a certain behavior as irrational has no impact whatsoever on the behavior occurring. Most people do tip. The system is not at risk at all. The only thing at risk is our understanding of the behavior from an economics perspective.

    Second, there is a profound difference between individual rationality, on the one hand, and group or system level rationality, on the other. As you note, the system depends on tipping as it is an integral way for people who provide the service to earn an income. But one individual customer will not upset the entire system if he doesn't leave a tip. He could "free ride" on everyone else's generosity.

    Perhaps an analogy would help clarify, so let's consider voting. The system depends on people voting. It is a core activity in a democracy. But individually, people should vote if the benefit exceeds the cost, not otherwise. If you feel your vote doesn't matter, you won't vote. In a probabilistic way, your vote matters less in a Presidential election than in a local election. But turnout is greater in th Presidential election. That is a mystery of sorts to economists. Incidentally, student turnout was quite high in 2008, but much lower in 2010.

    Third, it probably is possible to rationalize the tipping even in a non-repeat transaction. The person providing the service could glare at the customer or utter some ugly remarks. The customer might very well get disutility from that so tips to prevent it from happening. That seems reasonable, but now the story is more complex because now what is being paid for is not just the service, but also whether an altercation arises with it. Economists have a penchant for keeping things simple. They introduce complexity only as a last resort.