12/15/2010 04:32 pm ET | Updated May 25, 2011

An Economist's Guide to Holiday Gift Giving

It's that familiar time of year again -- crisp weather, holiday cheer ... and reindeer sweaters and fruitcake. The social norms of gift giving are alive and well, and I, as an economist, am here to help you navigate the murky and sometimes treacherous waters of trying to figure out other people's preferences and gifting accordingly. As such, I've organized a few tips to help solve your gift-giving dilemmas:

Gift Tip #1: Cash is King

Economist Joel Waldfogel wrote a paper back in 1993 entitled "The Deadweight Loss of Christmas." (It's a wonder why economists aren't more well-liked, right?) In this paper, he estimates the inefficiency caused by mismatches between gifts and the preferences of the people receiving them and finds that gift giving destroys between 10 percent and one-third of the value of gifts. (In other words, the gift recipients value the items at somewhere between two-thirds and 90 percent of the prices paid for the items.) To put this in perspective, estimated gift inefficiency amounts to about 10 percent of the inefficiency that results from income taxation, so, as ridiculous as it may seem, it's not really a laughing matter.

Luckily, there's an easy solution to the inefficiency problem: give the gift of cold, hard cash. Sure, cash may not be the most romantic of gifts, but it sure beats an ugly reindeer sweater, right? The writers of The Office, for example, seem to understand this concept:

Angela: Gift baskets are... the essence of class and fanciness. They are the ultimate present that a person can receive.

Dwight: What about cash? With cash you can buy whatever you want, including a gift-basket, so... it's kind of the best gift ever.

Jim: What about a gift basket full of cash?

Andy: Yes! Cash-basket! Nice work, Tuna.

(I will acknowledge that it often feels better to give a specific gift than to give cash, but I will also point out that a gift should be about the receiver and not the giver and encourage you to not be so darn self-centered.) If people buy the things that they value the most with the money that they have, then cash is, economically speaking, the best gift ever. (And no, a Wal-Mart gift card doesn't count as cash.) Socially speaking, however, it's a bit of a different story, so I've prepared some alternate suggestions:

Gift Tip #2: Get Inside Your Giftee's Head

One can avoid gift-giving inefficiency by gifting someone an item that he or she would have purchased anyway but hasn't gotten around to buying ... but beware: this can backfire if the item is not chosen properly -- just ask my dad about the time he got my mom a holiday vacuum cleaner. (Apparently efficiency considerations do not make a good defense in this scenario.) One can also potentially do well by gifting an item that the recipient would love but doesn't know exists, but again, this is dangerous territory that I will try to stay away from. (See tip #4 for an alternative)

Gift Tip #3: Circumvent Guilt and Budgets

I know this all sounds discouraging, but behavioral economists are here to tell you that the gift-giving situation is not entirely hopeless. Economist Dan Ariely has some advice on gifts for people who are in a gift-giving quandary:

"A good gift is something that someone really wants but feels guilty buying for themselves." This perspective is interesting because it suggests that the ideal gift is not something that the recipient can't afford or didn't know she wanted. It all comes down to alleviating guilt.

Behavioral economists acknowledge that people don't always make completely rational choices about what to buy and consume, and if this is the case then perhaps (non-cash) gift givers can actually be more helpful than inefficient. While Ariely argues that guilt could cause people to restrict their normal consumption, economist Richard Thaler describes the phenomenon of mental accounting as an organization and self-control device. For example, say you have a rule that you are never going to spend more than $300 per month on technology and gadgets. This rule would technically prevent you from purchasing a $700 big-screen television even if the television was worth more than $700 to you. Therefore, a gift-giver can do better by giving you the television than by giving you $700 in cash. Whatever the reason, there's potential gift leverage to be gained in this scenario, but you have to really pay attention to your giftee in order to figure out where that leverage can be found.

Gift Tip #4: Give a Hypothetical Gift

If you are either broke or feel weird about giving cash, you could always try my approach of wrapping a picture of the gift that you would have gotten the person along with the cash/big pile of nothing. (I'm actually not kidding- I recently emailed an article about an Etch-a-Sketch iPad cover to my best friend since I wanted to get it for him but we had agreed to not exchange gifts.) This has the the upside of conveying your thoughtfulness without the pressure for the recipient to actually buy what you suggest. However, there are a number of things to keep in mind with this approach. First, the recipient has to be aware of your strategy beforehand, since otherwise you just look like some hybrid of weirdo and cheapskate. (I suppose the cheapskate label can be avoided by including a wad of cash with your picture.) Second, the thoughfulness of the "gift" clearly trumps the extravagance, since no one is going to be impressed by "hey look honey, I got you a hypothetical yacht."

Regardless of what strategy you choose, I hope you have a very happy holiday!