Mental Accounting

You make economic decisions all the time. It may seem like you're on your couch, watching Hulu and stuffing Häagen-Dazs down your gullet. But you're really involved in complicated, economic decision-making.

For instance, you had to pick watching TV over any other activity you could have done. What's more, you had to pick a Hulu subscription over, say, Netflix, or NBA League Pass, or season tickets to your local opera. Meanwhile, you had to pick Häagen-Dazs over every other ice cream brand...and over any other type of food (ever heard of a carrot?).

Mental accounting describes the constant calculations that go into these day-to-day decisions.

You don't sit down with a spreadsheet every time you veg out on the couch (we assume). As such, the mental accounting process charts the informal, often subconscious series of categorizations, evaluations, and decisions that go into everyone's hum-drum economic selections.

The notion, developed by Richard Thaler, theorizes that people create different money piles in their head. These categories then inform the (sometimes irrational) decisions they make.

Like, your paycheck gets earmarked for rent and food. But if your grandma sends you $20 on your birthday, you might blow that cash at the casino. "Free money!" you think, though all the money you get is essentially the same. There's no reason why that $20 is better spent on slots than $20 you earned at the pickle factory.

That insight forms the backbone of the mental accounting process. Like how real-life accountants put money in different accounts and fill up row after row on spreadsheets with various categorizations, we do the same thing in our minds...whether we notice it or not.