In the intricate theater of human decision-making, the concept of rationality has long stood as a pillar of economic theory and behavioral science. Classical models assume that decision makers (DMs) operate solely based on concrete facts — available resources, preferences, and objective constraints — forging choices that maximize their well-being. Yet, this neat portrayal belies the complexity of human psychology where imagination and hypothetical scenarios — often disconnected from reality — subtly influence our decisions. Central to this phenomenon is the idea of “reference points,” mental benchmarks that are not facts but made-up situations that shape emotional responses and, ultimately, choices.
Reference points can be understood as imagined alternatives or counterfactuals juxtaposed against factual conditions. They serve as crucial psychological anchors that inform how individuals perceive satisfaction, disappointment, aspiration, and frustration. For example, consider a decision maker’s annual income, pegged firmly at $85,000 and forecasted to rise to $95,000 in ten years due to standard increments like seniority. Despite these facts, the DM’s mental landscape may host two contrasting reference points: one imagining a diminished income of $50,000, and another envisioning a future earning potential of $130,000 conditioned by a new career strategy or promotion.
When the income is imagined as significantly lower than reality, the DM experiences relief or consolation — a shield against feelings of grievance regarding the actual income of $85,000. This downward counterfactual dampens disappointment by reframing the benchmark for satisfaction at a level perceived as manageable or even fortunate. Conversely, the upward reference point — a hypothetical income of $130,000 — ignites motivation, ambition, and an urge for self-improvement. This aspirational scenario can energize the DM to take proactive steps to climb career ladders or develop new skills, pushing beyond the known constraints towards elevated well-being.
These imagined scenarios exemplify how reference points transcend mere facts and infiltrate the cognitive arena of decision-making, reshaping expectations and influencing behavior. They fundamentally challenge the orthodox assumption that rational agents are exclusively fact-driven entities. Instead, humans routinely invoke fabricated benchmarks against which outcomes are compared, affecting their emotions and choices in ways that traditional models do not accommodate.
Classical theories of rationality, ingrained in neoclassical economics, posit that decision makers operate in a deterministic framework defined by actual preferences, available goods, and binding resource limitations such as labor time and tools. The standard machinery does not allow for improvements in well-being or shifts in choice efficacy simply by entertaining “what-if” scenarios that deviate from empirical facts. Imagining an alternative income or opportunity — no matter how vivid — holds no formal role in augmenting utility or influencing rational choice within these models. The framework considers only the existing set of constraints and actual preference rankings when predicting decisions or outcomes.
This rigid adherence to facts neglects the nuanced psychological mechanics of human cognition, where emotions and cognitive biases interact with reference points to generate decision anomalies. Such phenomena are evidenced in well-documented paradoxes and observed behaviors like the Allais paradox, procrastination, or Keynesian expectations — all deviations from classical rationality that underscore anxiety’s role in economic behavior. In this respect, imagining hypothetical realities serves a functional role in managing emotional states, framing expectations, and motivating action despite being formally irrelevant to traditional rational choice theory.
Psychologically, the interplay between facts and reference points forms a dynamic tension that colors subjective well-being. While facts set the stage, reference points provide the script’s emotional subtext. For example, by envisaging a counterfactual income of $50,000 instead of $85,000, an individual may reduce acute feelings of envy or loss that would otherwise arise from social comparisons or unfulfilled aspirations. This mental adjustment acts as a cognitive buffer, tempering anxiety and restoring a semblance of emotional equilibrium despite potentially unfavorable external realities.
Conversely, reflecting on a hypothetical income of $130,000 — a prospect achievable only through enhanced effort or riskier options — adds narrative spice to the DM’s life story. It cultivates hope, ambition, and a forward-looking mindset essential for innovation, career progression, and personal growth. Such upward reference points can spur people to endure short-term discomfort, accept uncertainty, and recommit resources towards distant goals, effectively functioning as psychological incentives beyond pure material calculus.
These cognitive devices operate silently but powerfully in markets, organizational settings, and everyday life choices. They highlight the limitations of narrowly defined rationality and invite economists and psychologists to expand their analytical toolkits. Integrating reference points into formal models promises a richer understanding of how individuals cope with anxiety, set goals, and respond to uncertainty. Such integration could bridge gaps between normative rational choice theory and descriptive behavioral insights, advancing economic theory closer to the realities of human experience.
Moreover, recognizing the impact of reference points illuminates practical avenues for policy design and behavioral interventions. For instance, framing income prospects or cost-benefit scenarios in terms conducive to positive reference points might enhance individuals’ motivation or reduce counterproductive anxiety. Employers, educators, and policymakers can harness this awareness to foster environments where aspirations soar realistically without inducing debilitating disappointment or complacency.
Yet, the challenge remains to capture these processes quantitatively and tightly integrate them with standard economic constraints. Models that incorporate reference points must navigate complexities of subjective perception, emotional variability, and often non-linear psychological effects, which resist straightforward formalization. Nevertheless, ongoing interdisciplinary research combining economics, psychology, and neuroscience offers promising pathways to model these “made-up” situations as influential constructs within decision theory.
The dialogue between rational choice frameworks and psychological realism thus unfolds as a frontier in understanding human behavior under uncertainty. Contrary to purely fact-bound calculations, humans navigate a mental landscape richly textured by imagined alternatives and hypothetical evaluations. These reference points are not mere curiosities but essential ingredients shaping well-being and decision efficacy. By transcending a strictly fact-based paradigm, future theory can more accurately account for how emotional responses to reference points drive deviations from classical rationality.
Ultimately, this nuanced comprehension of reference points underscores the human capacity for both resilience and aspiration. Imagined realities not only cushion us from disappointment but also propel us toward growth and excellence. In economic life marked by uncertainty and anxiety, these mental constructs are indispensable tools for maintaining motivation and psychological balance. Exploring their mechanistic underpinnings and effects offers a powerful lens for reconsidering rationality itself — not as a cold calculus of constrained facts, but as a vibrant interplay between the real and the imagined within the mind.
As research continues to unravel the cognitive and emotional substrata of decision-making, the strategic role of reference points promises to reshape foundational concepts in economics and behavioral science alike. Bridging gaps between normative ideals and lived experience, these insights invite a more humane and psychologically attuned vision of rationality, one that embraces the complexity and richness of human thought beyond mere facts.
Subject of Research: Decision-making, Reference points, Rationality, Behavioral Economics
Article Title: Anxiety and rationality: Allais paradox, procrastination, Keynesian expectations, and other anxiety-based deviations from rationality.
Article References:
Khalil, E.L. Anxiety and rationality: Allais paradox, procrastination, Keynesian expectations, and other anxiety-based deviations from rationality.
Humanit Soc Sci Commun 12, 1214 (2025). https://doi.org/10.1057/s41599-025-05552-x
Image Credits: AI Generated
