Finance & Accounting Policy Apr 20, 2007

Can geography affect your bank account?

The role of culture in economic decisions

Based on the research of

Luigi Guiso

Paola Sapienza

Luigi Zingales

Do Koreans save more than the British? Are Eastern Europeans more reluctant to invest in stocks? Do Brazilians mistrust financial markets? While modern commerce may be global and pay little attention to national borders, people can retain a kind of economic heritage based on culture that influences their views in provincial ways.

Kellogg School Associate Professor of Finance Paola Sapienza in her recent work examines how culture affects economic systems. A Sicilian by birth, Sapienza and her two co-authors, also Italians, pursued the research after one of them admitted being uncomfortable sending a check through the mail despite having lived in the U.S. for nearly 15 years.

Old habits die hard apparently.

“You would never send a check by mail in Italy,” says Sapienza, “because the mailman would steal it for sure. My co-author was surrounded by people who said it was safe, but still he refused.”

“Culture” has long occupied a diminished place in economic research. For years many economists have ascribed to economic systems the power to influence culture, but have given little credit to the reverse theory - that culture might have the power to influence economics.

In her 2006 paper, “Does Culture Affect Economic Outcomes?” published in The Journal of Economic Perspectives, Sapienza and co-authors Luigi Guiso and Luigi Zingales take a more penetrating look at culture’s role in influencing economic phenomena.

“In recent years, economists have begun to apply their analytical frameworks and empirical tools to the issue of culture and economic outcomes,” the three scholars write. “Better techniques and expanded data have made it possible to identify systematic differences in people’s preferences.

“Culture has always been dismissed by most economists,” says Sapienza, who is also a faculty fellow in the Kellogg School’s Zell Center for Risk Research. “In the last five or 10 years there has been a shift. Researchers are saying, ‘If it is the case that culture plays no major economic role, then at least there are some inconsistencies.’” The authors’ define culture as “those customary beliefs and values that ethnic, religious, and social groups transmit fairly unchanged from generation to generation.”

As an example, Sapienza cites the habits of first-generation immigrants, who tend to behave more like those in the country they left behind than those in the country where they currently live. Cultural heritage, she says, citing research by Fernández and Fogli affects American women’s decisions about how many children to have and whether or not to work, despite all sharing the same economic environment.

Similarly, the issue of how individuals decide how much money to save is one that has long perplexed economists - might be linked to culture. Says Sapienza: “Savings is one of those behaviors that is very hard to explain with economic theories. Researchers have ideas, but it’s very difficult to explain the differences between various countries. Once you correlate the explanation with the data, you typically don’t learn very much.”

Average savings rates from 1970 to 1994, corrected for a country’s Gross Domestic Product, show clearly that Americans and the British, on average, tend to save far less than their counterparts in Norway, Portugal, Spain and Japan. The interesting part, though, is that a German or Norwegian person who has relocated to America tends to behave similarly to those in her home country.

It is unclear how long these differences persist, but it appears that many can prove enduring. Cultural norms tend to change slowly, in large part because parents tend to pass along attitudes inherited from their own parents, whether or not the views still apply under the family’s new social conditions. For instance, Sapienza says that some African religions once banned the eating of meat, a dictate that made sense in a sweltering climate where microbes multiplied quickly and could make people sick. But religious faithful who moved to northern climates held tight to the practice, she says, even though it no longer made sense from a practical standpoint.

Lessons learned the hard way have particular staying power, permeating a culture for generations. One of Sapienza’s favorite examples comes from the 1999 Martin Scorsese documentary “Mio viaggio in Italia” (“My Voyage to Italy”), during which the famous director describes why Sicilian immigrants in New York live in apartment buildings on the same street, yet do not speak to each other: “ he lesson of survival that was passed over for centuries and was carried over to the New World is a pretty brutal one, and that is: you think twice before you trust anybody outside your family,” says Scorsese. “Think about it. Your country, your homeland changes hands again and again over thousands of years. So, who can you trust? The government? The police? The church? No. Only your family, only your own blood.”

Part of the explanation for the persistence of cultural beliefs is efficiency - it makes little sense to learn something over and over, so people tend to tackle an issue once and forget about it. When Americans visit London, for example, they tend to have a disproportionately large number of accidents crossing the street, something researchers trace back to an automatic tendency to glance toward the left side even though traffic in the U.K. will first approach from the right. “You learn a rule of thumb and move it to a different environment,” Sapienza says.

Though the consequences are not as life threatening, Sapienza compares the London tourist scenario to Russian immigrants who grew up mistrusting the stock market in their home country - with good reason. “When they come to the United States, they are never going to make a switch. Their immediate reaction is to mistrust. They have a very biased view that could have lifelong financial effects,” she says.

Researchers such as Sapienza have been trying to determine how and when to introduce concepts that might influence a person’s financial future for the better. “The big challenge is whether education could undo some of and at what age you need to act,” she says. “Is there a time during which you can intervene?”

To help answer such questions, Sapienza is working on a study that will follow some 500 MBA students over a 40-year period to examine, among other factors, how their attitudes toward various financial topics change when influenced by particular academic frameworks.

Further reading:

Fernández, Raquel and Alessandra Fogli (2007): “Culture: An Empirical Investigation of Beliefs, Work, and Fertility,” Working Paper, New York University

Featured Faculty

Paola Sapienza

Donald C. Clark/HSBC Chair in Consumer Finance, Professor of Finance, and Zell Center Faculty Fellow

About the Writer

Kari Richardson, freelance writer. Originally featured in the Kellogg School of Management Web site, March-April 2007.

About the Research

Guiso, Luigi, Paola Sapienza and Luigi Zingales (2006). “Does Culture Affect Economic Outcomes?” Journal of Economic Perspectives, 20(2): 23-48.

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