Biases Flashcards
Dan Ariely - illusions and bias
its easy to use hindsight to see the mistakes we make with visual illusions its not that easy to see the cognitive mistakes we make as they are much less obvious
“even Einstein would probably be fooled by those tables” - Thaler and Sunstein
“our understanding of human behaviour can be improved by appreciating how people systematically go wrong”
Why do we have these biases?
the problem with rationality is choice:
- if we’re totally rational we would weigh up all the available information, decline probabilities and utility and then make rational decisions
the reality is that we are faced with 1000’s of decisions and choices and we simply can’t compute every single equation
Bounded rationality - Simon Nobel price winner 1955
refers to cognitive limitations facing decision makers in terms of acquiring and processing information
as a result we tend to use heuristics in decision making
Heuristics are methods for arriving at satisfactory solutions with modest amount of computation
ie instead of making a comprehensive search for the options that maximise benefits that people satisfice
we satisfice because we have limited cognitive abilities and are making decisions in complex scenarios - bored too easily
Simon recognised that we don’t necessarily make decisions in the way in which traditional economics had described
Heuristics are necessary and pragmatic and can often result in quicker and effective decisions being made.
The problem with heuristics
they can lead to biases meaning systematic errors in how we Make decisions
- we are in possession of all the necessary information to make rational decisions with consistent preferences
- we don’t have the time to take into account all the information to make rational decisions so we have to rely on short-cuts/heuristics
- we rely on heuristics and our emotions which affect our decisions
Difference between bias and random error?
biases are predictable, there is a pattern to them and they’re consistent. A pattern of human errors that affects us all
Availability bias
relates to the process of judging frequency by the ease with which instances come to mind (the availability of information)
people believe that events are more frequency or more probably if they’re easier to remember
Kahneman on availability
“when faced with a question people relating to the frequency go a category we can make judgements based on the ease of which something comes to mind”
we substitute an easier question from a difficult question
examples of availability bias
after 9/11 in the US peoples estimates for the danger of flying increased massively
as a result, more people decided to drive instead leading to an increase in road deaths
road deaths greater than casualties of 9/11 itself - ITNU
using availability bias
understanding can help save marriages or prevent fights during group work
when working on a group presentation you’ll retrieve and be aware of your contribution more easily than that of others
“you are likely to have this feeling even when each member of the team feels the same way” - Kahneman
earthquake insurance will be higher just after an earthquake relative to 7 years after
Overconfidence/optimistic bias
“we tend to exaggerator our ability to forecast the future, which fosters optimistic overconfidence” - Kahneman
positives of overconfidence
Martin Seligman speaks of positives for optimism in terms of success and mental wellbeing
the market values overconfidence: if CEO predicts share price of company highly to investors
“optimism is highly values, socially and in the marketplace; people and firms reward the providers of dangerously misleading information more than they reward truth tellers” - TF&S
4/10 new businesses fail in their first year and 9/10 after several - its optimistic bias that leads entrepreneurs to undertake risk so is good for capitalism
“economic dynamism of a capitalist society” - TF&S
their confidence in future success sustains a positive mood that helps them obtain resources raise morale and enhance prospects of prevailing
“when action is needed, optimism, even of a mildly delusional variety, may be a good thing” -TF&S
AIG overconfidence
gov bailed the company out for the $180bn - highest gov bailout
needed as it invested highly in a one way bet
CEO said that he couldn’t see them losing a single dollar in the investment
overconfidence can lead to individuals and organisations believing that they understand and are aware if all the risks that they are facing and can lead people to underestimate risk with dangerous consequences
overconfidence and economics
confidence is implying behaviour that goes beyond the rationale approach to decision making
when people are confident, they go out and buy, when they aren’t they withdraw and sell
Barber and Oden - confidence
studied gender differences in the area of finance
analysed data from a brokerage company
study found that men traded 45% more than women
didn’t actually lead to higher results, but actually a lower expected utility
Confirmation bias
we have a natural tendency to search for confirming rather than disconfirming evidence
we also have a tendency to look for information which confirms a belief that we already hold - self-serving bias
leads to people to overweight information which confirms their prior views, and to underweight information which disconfirms these views
“people seek data that are likely to be compatible with the beliefs they currently hold” - TF&S