Conspicuous Consumption and Game Theory

Overview

In this paper we intend to draw a comparison between Thorstein Veblen's theory of Conspicuous Consumption and Arms Races, or the Hawk-Dove game. We believe that Conspicuous consumption can be explained by using these strategic models, and will conduct a survey type experiment to prove this. The paper will be divided up into three sections. The first section will outline Veblen's theory and discuss the different types of conspicuous consumption. The second section will explain the idea behind Arms Races or the Hawk-Dove Game and outline some of the existing literature on this. The final section will consist of the application of these Game Theory priciples to the idea of Conspicuous Consumption.

Conspicuous Consumption

In most Neo-classical models of the market for goods, it is assumed that price is set by taking supply and demand into account. The market supply curve is a function of the costs of production, and the market demand curve is a function of consumers' preferences and income. It is at the intersection of these two curves that the market will find an equilibrium price. There are, however, a few complications that can arise in this model. The complication that is of interest to us right now is the trend of conspicuous consumption. Conspicuous Consumption is defined as the act of consuming expensive, or showy goods, that are also referred to as "luxury" goods. These goods often are of the same quality as lower priced goods, but offer a societal benefit to the consumer. In this model, higher priced items offer a type of status benefit and are therefore, more desireable. It is, however, important to understand that is not "the price of an object that affects utility directly, or that individuals seek to pay high prices for the sheer pleasure of being overcharged. Rather, [Veblen] proposed that individuals crave status, and that stutus is enhanced by material displays of wealth" (Bagwell 350). In this manner, conspicuous consumption, or the practice of consuming items for the enhancement of one's relative position, alters the typical models of supply and demand by making demand for certain items a function of price.

Thorstein Veblen

The theory of conspicuous consumption is one that has been around for a long time; it was first outline by Thorstein Veblen in 1899. Thorstein Veblen was an American-Norwegian academic who was born in Cato, Wisconsin in 1857. He studied economics at Carleton College but rejected the Neo-classical ideas of John Bates Clark. After earning his undergrad degree he studied under a pragmatist philosopher at Johns Hopkins and continued on to earn a Ph.D. in Moral Philosophy at Yale in 1884. After a few years away from university, Veblen returned to Cornell where he pursued the his previous study of economics further. It was after this final time in school that Veblen began to write. In the very beginning of the 20th century he published a number of influential works. His first book The Theory of the Leisure Class was published in 1899 while he was teaching at the University of Chicago. It was in this book that he introduced and outlined the theory of Conspicuous Consumption. In addition to this contribution to the field of economics, Veblen is also well known as one of the major influences to the Institutionalist perspective within Economics. He is considered the founder of the Institionalist school of thought, and in many cases instances of conspicuous consumption are referred to as 'Veblen Effects.'

Invidious Comparison

Invidious Comparison - When a member of a higher class practices conspicuous consumption in an attempt to separate themselves from the lower classes, in turn creating envy of the consumer.

Pecuniary Emulation

Pecuniary Emulation - When a member of a lower class consumes conspicuously in an attempt to appear a member of a higher class.

Arms Race

"For an imbalance to occur in favor of armaments, the reward from armaments spending must be more context sensitive than the reward from nonmilitary spending. And since this is precisely the case, the generally assumed imbalance occurs. After all, to be second-best in a military arms race often means a loss of political autonomy, clearly a much higher cost than the discomfort of having less elaborate outdoor cooking appliances." Luxury Fever, Robert Frank, page 162.

Application of Game Theory to Conspicuous Consumption

Does Conspicuous Consumption follow a Hawk-Dove model? When modeling this, the individuals have two choices: Conspicuously consume ("Consume") or, conversely, save the money that would have gone to conspicuous consumption ("Save").

Payoffs to Conspicuous Consumption:

	Consume	Save
Consume	(-5,-5)	(2,-2)
Save	(-2,2)	(0,0)

The values above are arrived at based on the following: Conspicuously consuming carries a cost, but gives utility provided others do not follow the same course of action. Thus, when both players Conspicuously Consume (a 'Hawk' action) they suffer losses from expended income that brought no advancement in social status. When one player consumes and another does not, the consumer receives a gain in utility from advanced social status (which is greater than their expenditure), and the player who did not consume falls in relative social position. When both do nothing, everything remains the same. In this game, any benefit to one player is accompanied by an equal loss in utility by the other player.

One feature of major importance in conspicuous consumption "arms races" is that each round of conspicuous consumption changes the payoffs for future interactions. For example, in a two player game, if in the first interaction Player A conspicuously consumes, but Player B does not, in the next "round" of the game, Player B has a greater payoff to conspicuous consumption, and Player A has a lesser payoff. This is because the relative gains from conspicuous consumption have shifted.

These can be modeled by changing the payoffs of the game. Assume that u₁ represents Player 1's utility, and u₂ represents Player 2's utility.

Assuming the two start as equals,

u₁ = u₂ = 1

Note that for future games,

(u₁ - u₂)/c = j, where c is a constant describing the desire for status.

The payoffs might look like this:

	Consume	Save
Consume	(-.25,-.25)	(.1-j,-(.1-j))
Save	(-(.1+j),.1+j)	(0,0)

which, when u₁ = u₂, gives the following:

	Consume	Save
Consume	(-.25,-.25)	(.1,-.1)
Save	(-.1,.1)	(0,0)

Now say in this interaction Player 1 decides to conspicuously consume, while Player 2 does not. Player 1 receives a payoff of +.1, while Player 2 recieves a payoff of -.1. u₁ is now 1.1, and u₂ is now .9. Using 10 (arbitrarily chosen) for c results in j = .02. The payoff matrix now looks like this:

	Consume	Save
Consume	(-.25,-.25)	(.08,-.08)
Save	(-.12,.12)	(0,0)

What has happened here is that Player 1, by virtue of already having a higher status than Player 2 through previous conspicuous consumption, now has less to gain from consuming. As Player 1 is already the one with the highest status, further conspicuous consumption does not do as much to elevate his/her status. Player 2, however, has much more to gain, by virtue of being of lower relative status. Should Player 2 conspicuously consume and Player 1 not, he/she will experience a greater gain. This is also true because of the fact that, according to Veblen, conspicuous consumption is largely done through the process of pecuniary emulation, that is, those with lower social status looking up at those above them, in this case, Player 2 looking up at Player 1's social status. LOSS AVERSION?!?!?!

Player 1 now has less incentive to consume, while Player 2 now has more. So, say Player 2 consumes while Player 1 does not. u₁ now equals .48, while u₂ now equals .52. Using the same c as before gives us j=.004. The payoff matrix now looks like this:

	Consume	Save
Consume	(-.25,-.25)	(.1002,-.1002)
Save	(-.0998,.0998)	(0,0)