The Joy of Economics:  Making Sense out of Life
 Robert J. Stonebraker, Winthrop University
 

Bah, Humbug

            Christmas won't be Christmas without any presents.

                                                                                                .....Louisa May Alcott

            A family friend tells the story of his younger brother who, as a child, gave their mother a coconut for Christmas.  When asked why, the young boy replied that he liked coconuts and knew that his mother would share.  Smart kid.

            Christmas is big business.  We know that.  We know that its sacred message is often swamped by a secular marketing barrage.  What is less appreciated is that this commercialization extracts enormous economic costs as well.  Not only does the frenzy of card and gift giving detract from the religious spirit of the day; it throws big bucks down the economic toilet.

            Each Christmas millions of Americans hit the malls looking for that perfect gift.  We roam the aisles and thumb through catalogues.  The pressure is to avoid the overly practical; only the most prosaic among us can savor a Christmas morning spent unwrapping underwear.  Most of us search for something special that our intended recipients wouldn't buy for themselves. 

            Occasionally we hit the jackpot and uncover that unique, special gift.  But it takes luck.  It usually means we found something the other person did not know existed, a difficult chore since our friends and family usually roam the same aisles and thumb through the same catalogues as do we.  More often our search for something special fails.  We buy something they would not have bought for themselves, but only because they did not want it.  Bah, humbug. 

            What is the result?  Despite the stress, bother and additional hair loss, our gifts are often the wrong size, the wrong color, the wrong style, or the wrong flavor.  Gifts so lovingly picked and graciously received end up being unused, abandoned, or relegated to attic shelves and basement boxes. 

Deadweight losses

            None of this will surprise an economist.  Economists presume that consumers always allocate their income in an optimal way, that they always buy the items generating the most marginal utility per dollar.   And that makes life very difficult for someone choosing a gift.  For example, suppose I am willing to spend $60 on a gift for my son.  What should I buy?  Certainly I want my money's worth; I want something he values at least at $60.  Should I buy a video game priced at $60?  Only if the game is worth at least $60 to him.  And there is the rub.  If the game is worth $60 to him, would he not already have bought it? 

            Perhaps you object.  Perhaps you want to argue that my son did not buy the game because he was broke.  Maybe.  My gift will add to his stock of potential goods and services, but an efficient $60 gift would be one that gives him the most possible pleasure for the $60.  And that is exactly what he would buy for himself if he had the $60.  If I choose the best-possible gift, I merely duplicate what he would have purchased himself with the $60.  If I choose anything else, I am buying something he would not have bought; something that he must think is less valuable than $60.

            That's the economic cost.  If we spend $60 for a gift which recipients value only at $56, we've created a "deadweight" welfare loss of $4.  We've tossed $4 of potential economic value into an irretrievable black hole.

            After surveying his microeconomic students at Yale (an admittedly unrepresentative sample), Joel Waldfogel contends that this deadweight loss is surprisingly high.¹   His students estimated the 1992 holiday gifts they had received cost family and friends an average of $438 (remember, these were Yale undergraduates), but that they would have paid only $313 for them -- that's a $135 loss per student!  A subsequent study with a larger and more varied sample revealed smaller gaps, but Waldfogel concludes that the total deadweight loss is close to 10 percent of the value of the holiday gifts purchased.²

            That's big bucks.  Waldfogel reports that U.S. families spent about $40 billion on Christmas and Hanukkah gifts in 1992.  If ten percent of that was wasted, we flushed almost $4 billion down the tubes in that year alone.  And that's only Christmas and Hanukkah.  It ignores similar costs for Valentine's Day (Do women really want all those heart-shaped boxes of candy?), Easter (How many stale chocolate bunnies and jelly beans are tossed out three weeks later?), and birthdays (Wouldn't you rather have the cash?).

            Of course, not all gifts generate the same losses.  The losses grow as the "social distance" between the givers and recipients grow.  Waldfogel found that gifts from close friends and significant others had the smallest losses, followed by gifts from parents and siblings.  Gifts from grandparents, aunts and uncles had the largest losses, which explains why well-meaning distant relatives more often choose cash gifts instead. 

            When cash gifts are considered unacceptable, gift cards can serve as a reasonable compromise.  Many of us who would never consider slipping our father a $50 bill for Christmas, might happily present him with a $50 gift certificate to his favorite home improvement store. The use of such cards has mushroomed in recent years from a paltry $12 billion in 1998 to an estimated $80 billion in 2007.³  With good reason.  Modern magnetic strip technology makes them far easier for consumers to use and for retailers to track.  They can be bought and redeemed online.  They can be personalized:  a Barnes and Noble card for the book lover, Blockbuster for the cinephile, Circuit City for the video gamer, and BabyGap for the expectant mother. And they minimize angst for increasingly harried working moms who still carry the major share of Christmas shopping duties. 

            Interestingly, while such cards are touted to be as good as cash, many recipients behave otherwise.  Because the magnetic coding does not identify a specific individual, the cards easily can be transferred; they can be sold. As a quick trip to eBay.com will verify, a robust market for "previously-owned" gift cards now exists, and the cards typically sell at significant discounts.  Earlier in the day this was written, sharp bidders snapped up a $25 Barnes and Noble gift card for $16, a $50 Blockbuster card for $38, a $25 Circuit City card for $21, and a $50 BabyGap card for $40.   In a more systematic study, economist Jennifer Offenberg estimates that these remarketed gift cards are worth on average about 20 percent less than their face value.⁴  In other words, they create welfare losses quite similar to those of other gifts identified by Waldfogel.

Missing utilities?

            Should we abandon non-cash gift-giving?  Not necessarily.  First, remember the old "it's more blessed to give than to receive" adage.  The above analysis ignores any possible value or utility the giver might receive.  Yet givers clearly can procure pleasure from the process. Instances in which the value to the giver exceeds the deadweight loss to the recipient still create positive net benefits to the pair.⁵  For example, if Angelina gains $20 of utility while shopping for a present to give Brad, the process creates new net value even if it creates a $10 deadweight loss.

            Sentimental value throws a second wrench into the mix.  Waldfogel deliberately asked students to ignore any sentimental value of their gifts.  What if we attach extra value to gifts because they are gifts?  Could the sentimental value offset any deadweight loss? A subsequent study argued that accounting for sentimental value might indeed turn the welfare loss into a welfare gain.⁶

            Nonetheless, sentiment itself does not invalidate the conclusions.  A new sweater from my wife takes on added value because it is from my wife.  Even if I do not like the sweater, I value it because it is from her.  But sentimental value accrues to sweaters I do like as well.  Given the choice between a sentimental sweater I like and one I do not like, I will choose the one I like every time.  I like the sentiment, but the deadweight loss of the ugly sweater still exists.

            Economist Rob Toutkoushian identifies a more important scenario.⁷  What if the amount of sentimental value depends upon the nature of the gift?  What if part of the purpose of the gift-giving game is to prove how well we know the tastes and preferences of the recipient? What if gift-giving is a test?

            Toutkoushian notes that spouses typically have the most at stake.   For example, suppose Annie, who drinks only tea, receives an assortment of coffees for a gift.  If the gift is from her great uncle, twice-removed, she may simply laugh.  But if the gift is from her husband, all h*** might break loose.⁸  Husbands are supposed to know better.  A loving husband should anticipate her desires.  A loving husband should expend the necessary time and energy to find a more appropriate gift.  The perfect gift affirms the closeness of the relationship; it pollinates the marriage with warm fuzzies.  The sentimental value rises when the gift manifests the effort and understanding necessary to nurture relationships.  Coffees -- and cash -- fall short of the mark. 

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Notes:

1.         Waldfogel, Joel, "The Deadweight Loss of Christmas," American Economic Review, volume 83, number 5, December 1993, pp. 1328-1336.

2.         Waldfogel, Joel, "Gifts, Cash, and Stigma," Economic Inquiry, July 2002, volume 40, number 3, pp. 415-428.

3.         The data and discussion about gift cards are drawn from Offenberg, Jennifer Pate, "Gift Cards," Journal of Economic Perspectives, Spring 2007, volume 21, number 2, pp.227-238.

4.          Ibid., pp. 232-235.

5.         Waldfogel does admit this possibility.

6.         See List, John and Jason Shogren, "The Deadweight Loss of Christmas: Comment," American Economic Review, 1998, volume 88, number 2, pp.1350-1355.

7.        These arguments were first supplied in correspondence by Toutkoushian to the author.

8.         My own wife suggested more colorful wording for this phrase, wording that might not be appropriate in mixed company.

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Testing Yourself

To test your understanding of the concepts in this reading, try answering the following:

1.         Explain Waldfogel's argument that Christmas giving creates large deadweight welfare losses.  

2.         Explain why giving gifts might be efficient even in light of the potential deadweight losses.

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