Tuesday, May 20, 2008

Indifference point

A friend of Café Salemba, Irma Kurniawan offers her thought on indifference point. Irma has been studying psychology at Universitas Indonesia, University of Queensland, Oxford University, and University College London. Her PhD research is on the neuroscience of action choices.

-- Manager
Indifference point: what does it mean?
by Irma Kurniawan

Paul Glimcher, a leading neurophysiologist/neuroeconomist, has given a 4-day visit at the Functional Imaging Laboratory, London this week and we had the privilege of listening to him give a series of informal lectures about classical economics axioms in Expected Utility Theory, and how these should be implemented in studying neuroeconomics. One thing he mentioned a lot was the notion of indifference point; a point where the (expected) utility between two (bundles of) goods are equal. Now, my impression is that economists think this as a point where buyers are indifferent between two objects and that the two are equally preferred. What this actually mean, cognitively, isn’t clear. Does this mean one is merely indecisive? Or one simply doesn’t care (indifferent) when given two goods that are of equal value to her? Would she let someone else choose for her at random in this situation? Or is there an unknown choice-making feature at the point of indifference that we haven’t discovered yet?

I don’t know enough about economics to say how economists would derive an indifference point empirically. In psycho/neuroeconomics, indifference is indicated when after 100 times of choosing between bananas and sausages, subjects chose bananas almost 50% of the time. This means that subjects would choose a banana on one choice trial and a sausage on the next trial, and that the indifference is only observed in the proportion of choosing each option across all trials (I also wonder whether this violates transitivity of choices, but let’s not talk about this yet!). One might then ask, at any single trial, what drives a subject to choose one over the other? Is this simply noise in the choice-making process? Did she choose randomly?

If the two goods are indeed of equal (subjective) value to her, might it be that this particular choice is a difficult choice such that she doesn’t know which one is better and which one she should choose? This is a plausible explanation. Psychologists would predict that people take longer to decide between options that are of equal (subjective) value to them, than to decide between 1 preferred object and 1 less-preferred object. This may suggest that they are engaged with more cognitive (i.e., thinking) process before making such a choice.

If this is true; if indifference at all indicates difficulty of a choice, does this mean subjects are engaged with a higher dose of ‘cost-benefit analysis’? Even if we fail to observe reaction time differences between choosing equally-valued products and choosing unequally-valued products, can we still make inferences about how much ‘cost-benefit analysis’ one is engaged with? Could we find a cost-benefit metric that can gauge how much analysis one is making about the values of each good?

Why care? Economists might not care what indifference actually means psychologically. Is it people’s indecision, difficulty in making such choices, or is there an underlying loss-gain analysis element in these decisions? If we know what it means for one to be indifferent, we’re able to identify underlying parameters for indifference and make stronger predictions about one’s future choices.

PS: Bautista et al., PNAS, 2001 have made this attempt to parameterise birds’ critical factors for choosing to fly or to walk (after establishing the indifference point between walking and flying).


  1. Very interesting. But I don't understand how neuroeconomists go from observing choice of banana and sausage in a trial to claiming an indifference point between the two.

    Is there an underlying assumption that the two goods are perfect substitutes? Is the diminishing marginal utility employed anywhere in the analysis? Is it possible that the trial is merely picking up the stochastic component of the trial? Isn't a probability of 0.5 a very common outcome in most random sampling using any widely-used probability density function?

    This is not a condescending remark, but I am honestly doubtful if the marginal benefit of this knowledge is higher than or at least equal to the marginal cost.

  2. Daniel, neuroeconomists do not establish indifference points just on one trial, they'll run tens or hundreds of choice trials between various quantities of bananas and sausages (for example), and find a point where subjects chose x bananas and y sausages at equal number of times. This point is called the indifference point. Now whether this is a flawed method--is what I wish to hear from the economists.


  3. Irma, maybe I jumped the gun. Sorry.

    Is there a place where I can read an introduction to the method? I'm not looking to poke holes in it, just out of sincere curiosity.

  4. Irma, thanks for the great post. I want to post a response but haven't got enough time. In the meantime, may I bring your attention to a previous discussion summarized by Arya Gaduh here? Thanks.

  5. Daniel, I'm sorry I never really read any 'introduction to neuroeconomics' paper, but a paper titled 'The neural correlates of subjective value during
    intertemporal choice' by Joseph W Kable & Paul Glimcher on Nature Neuroscience, 2007 clearly demonstrated how they derived subject-specific indifference curves for inter-temporal choices. Let me know if you can't find it.

    Aco, many thanks for the reference, I completely missed that heated discussion on Arya's blog. Rather than defending Tirta's point about neurons and preferences, I'm more interested in knowing what the indifference means to the economists, though. :0)