I think of myself as a very rational person- a mathematician. Grounded in facts and numbers, but sadly I question myself daily. Most humans, no matter how sure they are, may be irrational.
Researchers and economists, two of the most famous Amos Tversky and Daniel Kahneman, have believed that humans have made logical, well-considered decisions for many years. However, researchers have uncovered some brain blocks that sabotage our thinking. Sometimes we make rational decisions, but many more times when we do not!
Psychologists and behavioral researchers define different mental mistakes. Let’s look at five frequent errors that repeatedly sway us from making good decisions.
Brain Block #1 Survivorship Bias
Survivorship bias refers to our tendency to focus on the winners in a particular area and try to learn from them while completely forgetting about the losers who are employing the same strategy.
We only hear from the people who survive. We mistakenly overvalue one survivor’s strategies, tactics, and advice while ignoring that the same strategies, tactics, and advice didn’t work for most people.
When the winners are remembered, and the losers are forgotten, it becomes challenging to say if a particular strategy leads to success.
Brain Block #2 Loss Aversion.
Loss aversion refers to our tendency to strongly prefer avoiding losses over acquiring gains. Research has shown that if someone gives you $10, you will experience a slight boost in satisfaction, but if you lose $10, you will experience a dramatically higher loss in pleasure.
Our tendency to avoid losses causes us to make silly decisions and change our behavior simply to keep the things we already own. We are wired to feel protective of the things we own, which can lead us to overvalue these items compared to the options.
Similarly, you might feel a tiny bit of joy when you breeze through green lights on your way to work, but you will get downright angry when the car in front of you sits at a green light, and you miss the opportunity to make it through the intersection. Losing out on the chance to make the light is far more painful than the pleasure of hitting the green light from the beginning.
Brain Block #3 The Availability Heuristic.
The Availability Heuristic refers to a common mistake our brains make by assuming that the examples that come to mind quickly are the most important or prevalent things.
Research from Harvard University has shown that we live in the least violent time in history. More people are living in peace now than ever, and violent crime is falling.
Most people are shocked when they hear these statistics. If this is the most peaceful time in history, why are so many wars going on right now? Why do I hear about violent crimes crime every day? Why is everyone talking about so many acts of terrorism and destruction?
The answer is that we are living in the most peaceful time in history and the best-reported time in history. Information on any disaster or crime is more widely available than ever before. A quick search on the Internet will pull up more information about the most recent terrorist attack than any newspaper could have ever delivered 100 years ago.
The percentage of dangerous events is decreasing, but the likelihood that you hear about one of them (or many) is increasing. And because these events are readily available in our minds, our brains assume that they happen more frequently than they do.
We overvalue and overestimate the impact of things we can remember, and we undervalue and underestimate the prevalence of the events we hear nothing about.
Brain Block #4 Anchoring.
This effect has been replicated in various research studies and commercial environments. For example, business owners have found that if you say, “Limit 12 per customer, ” people will buy twice as much product compared to saying, “No limit.”
Perhaps the most prevalent place you hear about anchoring is with pricing. If the price tag on a new watch is $500, you might consider it too high for your budget. However, if you walk into a store and first see a watch for $5,000 at the front of the display, the $500 watch around the corner suddenly seems pretty reasonable.
Many of the premium products that businesses sell are never expected to sell many units themselves. But they serve the critical role of anchoring your mindset and making mid-range products appear much cheaper than they would on their own.
Brain Block # 5. Confirmation Bias.
The Grandaddy of Them All. Confirmation bias refers to our tendency to search for and favor information confirming our beliefs while ignoring or devaluing information that contradicts our beliefs.
Changing your mind is more complex than it looks. The more you believe you know something, the more you filter and ignore all information to the contrary.
You can extend this thought pattern to nearly any topic. If you bought a Honda Accord and believe it is the best car on the market, you’ll naturally read any article you come across that praises the car. Meanwhile, suppose another magazine lists a different car as the best pick of the year. In that case, you dismiss it and assume that the editors of that particular magazine got it wrong or were looking for something different than what you were looking for in a car.
Formulating a hypothesis and testing various ways to prove it false is not natural. Instead, it is far more likely that we will form one idea, assume it is accurate, and only seek out and believe information that supports it. Sadly most people do not want new information; they want to validate the information.
Where to Go From Here
Once you understand some of these common mental errors, your response might be:
- I want to stop this from happening!
- How can I prevent my brain from doing these things?
It’s a fair question, but it’s not quite that simple. Rather than considering these miscalculations as a signal of a brain block, it’s better to consider them as evidence that the shortcuts your brain uses aren’t helpful in all cases. The mental processes mentioned sometimes are beneficial in many areas of everyday life, and you don’t want to eliminate these thinking mechanisms.
The problem is that our brains are so good at performing these functions — they slip into these patterns so quickly and effortlessly — that we end up using them in situations where they don’t serve us.
One method I use is to listen to different viewpoints and try to narrow down points to a simple, easy-to-understand model. Look for similar pieces and then look for opposing views. See if the opposing points are talking about the same issues. If they are, then research those points until you find a consensus. If it is not solvable by using math, then you have to make an educated guess with as much supporting documentation as possible. Don’t forget there is always prayer!
Elon Musk has been in the news almost daily. So how does the wealthiest man in the world solve his most complex problems? By using a Three-Step Process.
- Use science in your thinking when you confront questions:
- Break it down into its simplest fundamental parts.
- Examine and validate your assumptions, so they are 100% true
Build your solutions and then apply steps 1&2
Thinking is challenging; that’s why many prefer not to do it to any great extent. If one thinks, one must reach conclusions, and conclusions are not always pleasant. It is vital to understand that the way you approach something that should be economic is often more psychological.
Science is laid to rest, and assumptions are plugged in.
Many times, to fill in the blanks or to complete a story, financial entertainers today sadly use assumptions about human behavior in almost all economic models. These assumptions are probably among the most controversial and unrealistic ever devised and promoted as truths.
An economist and his student are stuck on a deserted island with nothing but a can of beans. The student is hungry and asks the economist how they can open the can to eat these beans. The economist replies, “That’s easy. We assume we have a can opener; then we use it to open the can.”
This joke is a great swipe at my economist colleagues’ use of assumptions. Many of which sometimes come out of nowhere or have some bizarre historical reference
Economists and financial advisors make many assumptions about the world that are unrealistic. These assumptions often attempt to simplify a complex phenomenon; sometimes, they lead to bizarre conclusions.
Science wins out every time if you follow the three steps Elon uses!
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Kris@HealthyMoneyHappyLIfe.com
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