The concept of altruism and the composition of gifts

 

The two principal systems of allocating resources are generally held to be the market economy, where private property is freely traded on a competitive basis, and the command economy, where property is collectively owned and distributed in a regulated manner. While the economic systems used in the countries of the world are variations of these two primary models, there exists a third possible economic model that contains, to some extent, characteristics of both these major models. This is known as either the integrative system [1] or the charity market [2], where private parties agree to transfer resources to others at a price below their market clearing level without being subject to any threat of coercion by government or having any need to meet the commercial constraints imposed by market [3]. 

 

Despite having many interesting features, the concept of altruism, which is the driving force behind charity, has not, until recently, been the topic of much economic research - indeed, the French term altruisme, signifying devotion to the welfare of others, was only introduced into the English language in the early nineteenth century [4]. This oversight was largely because neo-classical economists tended to focus on how people acted selfishly to maximise their own utility, even though Adam Smith, who was largely responsible for initiating such studies with his views on the “invisible hand”, had previously argued that men could be motivated to act in the best interests of others, mainly because they sought to impress upon some “impartial spectator” that they had moral attributes worth admiring [5]. Nevertheless, once the initial difficulty in understanding how consent to a wealth transfer could be granted without appearing to receive anything in return was overcome, the impasse in thought was rapidly overcome, especially after economic research was applied to relationships existing outside of the marketplace, such as those within families. At this time, new light was shed on how and why gifts were offered by different parties to one another.

 

In economic terms, a gift is any resource that is allocated by a donor (the giver) to a beneficiary (the recipient) at a price lower than its value in a functioning market [6]. The act of gift giving is unique, in that it contains characteristics of both command and market economies. On the one hand, the donor is similar to a central planner in that she alone has the power to determine what resources should be offered, to whom they should be offered, and under what circumstances the transfer is to take place. This power is, however, tempered by the fact that the recipient is, to a large degree, free to determine whether or not he should actually accept the gift offered by the donor. Consequently, an element of trading as found in the market system exists, where both the donor and the recipient may need to negotiate over the terms of a particular transfer before any donation is effected.  

 

To demonstrate how the value of a gift is constituted, we employ a technique, developed for the general purpose by Alchian and Allen [7], to examine the behaviour of physicians. According to Arrow, medical practitioners sometimes provide services to patients who would otherwise not have been able to afford to go to them at fees lower than they would normally charge, with the explanation for this apparent anomaly being that “treatment is dictated by the objectives of the case and not limited by financial considerations” [8]. In such cases, they are thought to be reflecting their spirit of altruism, as their behaviour serves as a signal that they are charitable and have an interest in the welfare of the patients, and are not only interested in maximizing their own wealth.

 

We start by assuming that a doctor, whom we shall call Dr. Spock, would normally charge a client R200 per consultation [9]. In effect, this price, denoted A, is the market price for her services. However, to show that she is altruistic, our doctor decides to request a payment of only R10 when she attends to the case of an indigent patient,  called Mr. X. This nominal payment of R10 for services worth R200 represents the amount that the recipient actually pays for the gift (denoted D). Furthermore, assume that if the patient did not have the opportunity to go to Dr. Spock, he would have had no option other than to attend the practice of an alternative physician, Dr. Castro, who, although significantly less competent, would charge only R50 for a consultation (shown as C). Finally, we ascertain that while our recipient believes that the donor’s skills are superior to those of Dr. Castro, he may not feel them to be more than twice as valuable as those of Dr. Castro, so the most that he personally would have been willing to pay Dr. Spock for a consultation is R100. This value is represented by B, and indicates the maximum value placed by the recipient on the gift that is being offered.

 

From these different valuations, we can deduce that the transfer of wealth embodied within the gift is R190, which represents the difference between what the gift is worth on the market, and what is actually paid by the recipient for it (i.e. A-D = R200-R10). Encapsulated within this wealth transfer are three smaller gift components, each of which has a particular function:

 

i) General wealth transfer - If the donor had not offered her services for R10, then the recipient would have had no option but to go to the inferior doctor for help, where he would have had to pay R50. This difference in consultation prices is R40 (C-D = R50-R10), and represents the opportunity cost (in monetary terms) that is no longer incurred by the patient when receiving medical attention, as it is now, in a sense, cheaper than before. This portion of the gift can be considered to represent a general transfer of wealth from the donor to the recipient, as Mr. X is now free to spend R40 in any way that he desires (not necessarily on healthcare);

 

ii) Specific wealth transfer - We must then compare what the recipient would have been required to pay for medical care, had the donor not made her offer, with what he actually believes the gift to be worth. In this case, the difference is R50 (B-C = R100-R50), which signifies that the recipient believes that he is receiving a more valuable level of medical care than he would have otherwise have purchased. This segment of the gift can be interpreted as being a specific transfer of wealth as it relates to a change in value of the particular class of good being consumed (in this case, health care);

 

iii) Deadweight loss - Finally, we have a residual value representing the difference between the market value of the gift, and the recipient’s private valuation of it. To the recipient, this segment of the gift is simply a waste of resources since the relevant R100 component (A-B = R200-R100) does not provide him with any real benefit. If he had simply been given the total value of the gift in cash, he would feel better off, as this “wasted” R100 would cease to exist. However, from the point of view of the donor, this R100 is not irrelevant, but is of some private value to her, otherwise she would not have considered donating the gift in the first place. That is to say, she feels that the R190 in foregone income provides at least as much utility as the R40 increase in general spending power and R50 in superior medical care that the recipient believes he is getting when he goes to her for assistance.

 

In summary, the different values that the donor and recipient attach to a gift, in any conceivable situation, are:

A =      the market value of the gift;

B =      the maximum value which the recipient has of the gift. That is to say, this is the most the recipient would have been willing to pay for the good or service that constitutes the gift if it was on offer in a market;

C =      what the recipient would have to pay in order to acquire a good or service of the same general class as the gift, had the donor not provided the gift;

D =      what the recipient actually pays the donor in order to receive the gift.

 

From these valuations, the different components of a gift are then derived in the following general manner:

A-D =  the net cost to the donor of providing a gift at a price below its market clearing level [10]. This cost to the donor may then be broken up into three smaller “gifts”:

A-B =  this is, according to the recipient, simply a waste of resources that provides him with no utility whatsoever. From the donor's perspective though, it is not a deadweight loss, but rather the value of the incentive required for inducing consumption of the gift;

B-C =  the value, to the recipient, of the extra resources that would otherwise not have been consumed had the gift not been made available to him;

C-D =  the change in general purchasing power made available to the recipient due to the donation of the gift.      

 

One common misconception concerning gift-giving is that the donor always provides these for free, with the recipient receiving them at zero cost. Under such circumstances, it is felt that there is no need to have a price mechanism in place to account for these resource transfers given that they are provided at a price of zero. Strictly speaking, this is incorrect, because as our example demonstrated, a donor could still be acting charitably even if she requested some form of compensation, such as a token monetary payment, from the recipient. The implication of such an observation is that it could provide us with an alternative explanation to the problem of price discrimination, where “two varieties of a commodity are sold (by the same seller) to two different buyers at different net prices” [11]. In a situation of altruism, this can mean that when a seller favours certain disadvantaged individuals, she may give them a donation, albeit  indirectly, by charging them a lower price than she would other, less favoured parties, even if her marginal costs of provision are identical in both instances. In our medical example, the charging of different prices could be correctly interpreted as being a profit maximizing strategy for the doctor only if it leads to the occupation of consultation slots that would otherwise not have been occupied. In such a situation, her profits would be expected to increase as the market price that she charged would exceed the marginal costs that she incurred to provide her services, If, however, such a price concession is granted to poor patients when rich clients who could pay the market price are displaced, then such behaviour is definitely not of a profit maximizing nature, for in this case, she could only be charging enough to cover her marginal costs, but nothing more. Consequently, such a deviation implies that an alternative set of criteria to profit maximization motivates the seller to act in such a non-selfish manner towards certain “needy” individuals [12].

 

An additional point of interest is to determine whether it is more appropriate to provide a gift as either a simple cash transfer or in a non-monetary guise, since this may influence the degree of deadweight loss (A-B) associated with charitable giving. This is of great importance since, ceteris paribus, the less waste there is of this type, the better off both the donor and recipient will be from any charitable act. Although distinguishing between the structure of a gift may appear to be a trivial matter, the amount of waste should not be underestimated, for even if it amounts to only a small fraction of a gifts market value, the absolute value may be significant. This can be seen by analyzing the following example, where an unwanted gift was offered by the recipient for resale:

 Ford Laser Tonic- Brand new, unregistered, unwanted gift. Cost R43 330, will accept R40 000 [13].  

 

Applying the methodology just developed allows us to make the following deductions:

-assuming our recipient received the gift with a market value of R43,330 (A) for free (D), then the net value of the wealth transfer to him is R43,330 (A-D = R43,330-R0);

-from the information available in the advert we are unable to determine what alternative means of transport is available to the recipient, and thus cannot ascertain the value of C [14]. However, we are able to determine that the recipient is willing to part with the gift in return for R40,000 , which can serve as an approximation of his valuation of the gift (B). Consequently, we are able to calculate that the deadweight loss to the recipient of receiving the gift is R3,330 (A-D = R43,330-R40,000), or about eight percent of the market value of the gift [15].

 

The above example is a simple, once off demonstration of a much broader phenomenon. To get a more extensive idea of the magnitude of the deadweight losses arising from gift giving, we should aggregate the value of the waste incorporated in all the gifts given during a particular period. This is what was done in two studies that attempted to estimate the value of the losses arising from gift giving in the USA over the Christmas season. According to the first study, it was estimated that in 1992 alone, between $4-13 billion worth of gifts were written off as worthless by recipients, which implied that that one-tenth to one-third of the value of all gifts consisted of deadweight loss [16]. In a subsequent study by the same author using a revised methodology, it was found that only about ninety percent of the market value of a gift was appreciated by the recipient, leaving the remaining ten percent as deadweight loss [17]. While this estimate is smaller than that obtained in the first study, it still amounts to a significant value in both statistical and economic terms. Furthermore, such values are not necessarily restricted to the USA or present only during the Christmas period, with a recent survey estimating that about ₤1.8 billion was “wasted” on unwanted gifts in the UK every year [18]. What is important about these studies is that they show how vast amounts of resources can be collected and distributed in a less than efficient manner, where recipients do not value that which they have been given to the same extent as the donors that provided them [19]. Thus, a fundamental requirement for improved altruistic behaviour is to tailor the giving of gifts in such a way as to ensure that resources are used as efficiently as possible.

 

In general, gifts that take the form of cash transfers are considered to better at minimizing the deadweight loss that arises from altruism, as their value is assumed to be identical to both the donor and the recipient. That is to say, when a donor gives a recipient a R100 bank note, she can be certain that the recipient will value the gift at its full face value of R100, and not at some lower value (such as R90). In terms of our terminology, the deadweight value of the gift will be eliminated (i.e. A-D = R100-R100 = R0), since the value that the recipient has of the bank note (B = R100) is identical to its market value (A = R100). As such, a cash gift can eliminate some of the transaction costs associated with altruism, where an information asymmetry problem may exist if neither the donor nor the recipient are acquainted with one another, and therefore need to incur search costs to determine each others valuation of different items when searching for the “ideal” gift. Due to this ability to reduce waste, cash gifts are believed to be particularly appropriate for expressing market based altruism, with Becker arguing that when firms wish to assist needy parties, efficiency is greater if “all customers were charged the same price and a cash gift were given to favoured customers” [20] than if an altruist sells its wares at below market prices (i.e. engages in the type of altruistic price discrimination previously examined). Not only would this approach allow the firm to “survive”, by letting it hand out donations only once it had made enough profits to meet its own requirements, but it would also be more “measurable” [21].

 

From this argument, it could be inferred that money based altruism is suitable only for exchanges involving strangers. However, cash gifts can be appropriate even when dealing with non-market institutions such as the family, where the donor could expect to be fairly well acquainted with the preferences of the recipient towards various items [22]. In such situations, it has been found that the extent of the waste in a gift was linked to factors like the relative age difference and degree of (emotional) separation between the donor and the recipient. While close acquaintances, such as partners and parents, gave gifts whose private valuations by the recipients were close to the market value of such items, when gifts were given by more distant relatives, such as grandparents, the amount of deadweight loss became substantially greater due to poor donor knowledge of recipient tastes, with the only exception relating to monetary gifts.

 

Despite this apparent general superiority of gifts given in a monetary format, certain gifts are deemed to be more appropriate or desirable when they are given by the donor in a tangible yet non-monetary guise. While a monetary gift may still be accepted by the recipient, it will not be appreciated as much as if an actual good or service with the same financial value had been donated. In such a case, there will now be an element of waste when the gift is given as cash, as opposed to the more common situation where recipients deem non-cash gifts to be wasteful. Although somewhat surprising, this was precisely one of the observations obtained in a study conducted to refute the findings of the first Christmas study cited above which, when looking at the most desirable way of giving gifts in order to minimise deadweight loss to recipients, concluded that gifts given in a tangible, non-cash form were more effective. According to the authors, “many items give recipients higher utility if they are purchased by someone else” [23], with tangible gifts yielding, on average, a utility to the recipient of about twice their market value.

 

There are two particular categories of gift that may be worth more to the recipient than the values accorded to them on the market. Firstly, we have those items that cannot be easily bought, either because their sale is restricted or because the recipient was unaware that they were even available. In this case, the utility that such items provide to recipients exceeds the utility they could get if they were given cash to the same value as the gifts with which to buy those items that they liked and knew they could get. The underlying flaw with these gifts, such as Chanel handbags, is that a large portion of the utility they provide lies in their uniqueness, with their private value to the recipient depreciating rapidly should their availability increase. Secondly, we have those gifts that are provided to a recipient by a specific person and which have a sentiment, such as “love”, attached to them. With these gifts, such as flowers and diamonds, the functional utility provided by the gift item to the recipient may be negligible, but the emotional utility that is gained because of the effort or expression by the donor involved in the act of giving may be substantial.

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