What Is the Economic Man Theory?

Economic Man Theory Explained in Less Than 5 Minutes

Definition
The economic man theory is the idea that people make decisions based on what they think will maximize their well-being and bring them the most financial gain.
A yacht owner takes in the view.
Photo:

Thomas Barwick / Getty Images

The economic man theory is the idea that people make decisions based on what they think will maximize their well-being and bring them the most financial gain. It assumes individuals strive to maximize self-interest.

Let’s take a closer look at how the economic man theory works and how it relates to the financial decisions you make.

Definition and Examples of the Economic Man Theory

The economic man theory is a fundamental principle of economics that states that individuals are rational and always act in their own best interests. In other words, people make financial decisions based on what they believe will result in the greatest benefit for themselves.

  • Alternate name: Homo economicus

For example, if you have the opportunity to put $50 in savings or donate $50 to a charity, economic man theory suggests you’d put the $50 in savings because it helps you the most financially. It’s the “rational” optional of the two that would maximize your self-interest.

Note

While the term may sound outdated and gender-biased today, the economic man theory is understood to apply to all genders, not just men.

How the Economic Man Theory Works

The economic man theory assumes that all humans are motivated solely by self-interest, which means they will always try to maximize their wealth. It was first introduced by late economist Adam Smith.

The economic man theory can be used to explain a wide range of economic behaviors, including consumer choice, labor supply, and financial decisions.

For instance, when you decide which products to buy as a consumer, you typically consider things like price, quality, and convenience. If two items are completely identical but are sold at two different price points, the “economic man” would go with the cheaper option because it is in their self interest.

Note

Another example of economic man theory can be seen in the labor force. As an employee, the “economic man,” one might argue, would choose to work hours that offer the highest pay or most benefits—even if it means working more hours overall—if the extra money earned is in the employee’s best interest.

Finally, you could argue that investors also demonstrate rational behavior under the economic man theory. When you buy stock, you’re betting that the stock will go up in value and that you’ll earn a profit. This decision is based on the expectation that the investment you’re choosing now is more beneficial to you than any other alternative. 

Advantages of the Economic Man Theory

The economic man theory describes how humans have an innate drive to better their current situation. The “economic man” in you may be nudging you to negotiate a raise at work, save for retirement, build your net worth, or other steps to better your situation

Criticisms of the Economic Man Theory


While the economic man theory is a well-established principle in neoclassical economics and it provides a basic theory on why you make certain choices, it has criticisms.

Economic Man Theory Assumes People Always Act Rationally

Economic man theory assumes people always act rationally and in their own self-interest. However, scientific research proves this isn’t the case. Rather, most people actually make decisions based on emotions, cognitive biases, and social norms, rather than rationality.

Note

Take stock market swings as an example. When you see your portfolio dive, you may be inclined to react on emotion like fear and sell your assets. This would be an irrational decision that goes against your self-interest. Still, countless people do it all the time.

A company’s 401(k) match is another example. Economic man theory assumes you’d always take the company match when given the chance because it’s free money. If your employer offers a 50% match on your contributions, that’s an instant 50% return on your money. 

In real life, numerous people never take advantage of this company perk. Maybe they have more pressing matters to take care of like bills, childcare, or health care costs that are in their self interest. Or, on the other hand, they could be driven by an emotional impulsion to spend that money now instead of saving it.

Constraints of Time and Information in the Economic Man Theory

The economic man theory also suggests that people have perfect knowledge about all the options available to them when making a decision—and that there’s always one clear decision. But this isn’t always the case. 

When making decisions, sometimes you’re stuck between two seemingly good options and you may not have time to gather all the information.

Key Takeaways

  • The economic man theory is the idea that people always make rational decisions that are in their own self interest.
  • The economic man theory provides a foundation for understanding how people make financial decisions, and it has been used to explain a wide range of economic behaviors.
  • One flaw with the economic man theory is that it assumes a person always acts only for their self-interest. In reality, people are also likely to make decisions based on emotion or cognitive biases.
Was this page helpful?
Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. Microeconomics in Context. “Chapter 7: Economic Behavior and Rationality.” Accessed Feb. 10, 2022.

  2. National Library of Medicine. “In Search of Homo Economicus.” Accessed Feb. 10, 2022.

  3. American Psychological Association. “Rational-Economic Man.” Accessed Feb. 10, 2022.

Related Articles