TAG | Behavioral Economics
Delving further into the realm of cognitive illusions and biases, over the next few blogs I shall be talking about many cognitive biases that hinder and help our daily choices. What decisions one makes throughout their life, from the trivial (which flat screen monitor should I buy?) to the heavily weighted ones (we have all been there) is ultimately what shapes the course of our existence, levels of happiness, success and fulfillment.
Perhaps by understanding what makes us act and decide in certain ways, we can on one hand learn to make more sound decisions, and on the other hand learn to influence and aid the decisions of others, with the aim to creating a planet where we are better decision makers! (Wouldn’t it be nice!)
The Fuzzy Realm of Memories and Emotions
Relying on one’s brain to give us the information needed to make sound decisions on a day to day basis is a tricky business indeed. The information we have stored up there asserts itself in ways that are often governed by fuzzy memories and the unreliable realm of emotions.
Two common human tendencies are anchoring and the choice supportive bias. Anchoring occurs when one specific snippet of information (generally, the information learned during the first encounter of the subject) is overly relied upon by a person while making a decision, and so the thought process is warped. New information encountered may be adjusted to be in line with what one already knows. Information obtained early in life affects any subsequent analysis, as newly encountered information may be adjusted to be in line with what one already knows. This is all well and good if your knowledge on a subject comes from a reliable source; someone who knows what they are talking about. But say your dad helped you choose your first car. Say Daddy dearest is a few sandwiches short of a picnic, and is adamant that the color of the car is the most important thing to consider. While automobile coloring may be something you want to take into consideration (appearance of cleanliness, night visibility to other motorists, how much of a chick magnet said car might be) it’s certainly not the be all and end all. Anyway, you listened to your father and got a car in a bright, Lamborghini yellow. Say this car never broke down, served you well for many happy years, and attracted many babes. Now you have a choice supportive bias. At the time, you were just listening to your father’s advice, now, you have retroactively ascribed a positive attribute to the option you selected, as in, yellow is the best color for a car, and now you shall only ever own yellow cars. (The Lamborghini is next!)
Memories of regret or satisfaction associated with our choices can be as important as the choice itself, and they do tend to be distorted. While you remember the yellow quality of the car and the happiness it brought upon your life, you may have completely blocked the memory of the passenger window not being able to be rolled down or the pathetic sounding horn. Biases stored as memories will influence your future decision making.
During memory retrieval the belief is that if I chose this option, it must have been the better option. Memory distortions may sometimes be in our best interests, i.e. there may be particular details of an event that cause us discomfort or emotional pain and so the positive illusion helps to reduce regret about past choices and promote well-being.
It is notable to mention that without the involvement of personal choice, ie. Options that are assigned by others (a boring job assignment from your boss, a vacation spot chosen by your uncultured brother) our memory attributions tend to favor the alternative option and our disappointment and regret can become emphasized.
Lists, Wagons and Farm Animals
A tool commonly used in decision making, I’m sure you are all familiar with, is the pros and cons list. This is an outwardly realized, legible version of the Distinction Bias. This is a concept of decision theory forwarded by Hsee and Zhang. There are varying modes of evaluation when making decisions. We can take something at face value, read the pamphlet, the specifications, and decide whether or not to take up the option. Or we can compare the option with one or more that are similar, and use the pros and cons list (or an internal version of it if you don’t have a notepad nearby). Simultaneous viewing of your options makes them seem far more dissimilar that viewing each possible choice in isolation. That there is a better and a worse version of everything, and the fact that we have a seemingly endless range of options to choose between (here’s looking at you, flat screen TVs) means we often form preferences and make decisions through distinction. The thing is, once chosen, options are experienced separately. So you bought the model that was $200 more, because it had an extra inch or two and a special matte black coating which is supposed to repel dust, but in reality the difference in quality of the less pricy TV would have been infinitesimal, probably imperceptible, especially once it’s on your sideboard and playing the part of the commanding presence of the living room whether it’s 40” or 42”.
Finally, and I believe this has a lot to do with the plethora of flat screen TVs on the market, is the herd mentality, aka the Bandwagon Effect; a phenomenon that is more equally inside and outside of one’s minds workings that the three previously mentioned cognitive illusions. Heavily documented in behavioural science, the Bandwagon Effect is when people do and believe things merely because everyone else is doing and believing these things, often regardless of reason and evidence to support said conduct or belief. Fads and trends spread among people, and gain momentum. You know, Lemmings. Leggings. Twitter. Actually with online social networks like Facebook and Twitter, the more users join, the more useful they become. I can’t say the same for leggings. And let’s admit it, Lemmings don’t really count because they aren’t people. Plus my primary knowledge of their behavior stems from a game I played on a very primitive computer in around 1993.
The way information circulates today, a fad can be born and be extinguished in a very short period of time. Viral YouTube hits are a great example of how jumping on the bandwagon has become such fast sport. It’s the quick or the dead.
This tendency to do as others do obviously occurs not just because we are all sheep who prefer to conform but also because of the way we derive information: from other people.
The lessons here are as such:
When decision making, we must remember that a) our first encounters with any subject will have provided us with information that may be affecting any new information we take in about said subject. b) our memories of emotions and levels of satisfaction from any previous decision may unknowingly sway us toward certain options. Be wary that negative emotions and experiences may have been blocked. c) When viewing similar options side by side the differences may seem great – but once the choice is made and the other options are not present, you probably won’t miss them. d) No matter what you are into someone else will be into it too. The way information travels today makes it all but impossible not to get caught up in fads. If being compared to farm animals upsets you, then just try to choose your bandwagons carefully. Ask yourself why, and try not to answer with
“Because everyone else is doing it!” (Yes, Mum, I would jump off a cliff if Jenny did. Happy?)
”Take the stairs instead of the escalator or elevator and feel better” is something we often hear or read in the Sunday papers. Few people actually follow that advice. Can we get more people to take the stairs over the escalator by making it fun to do? See the results of a great experiment from The Fun Theory.
A recent study in behavioral economics, conducted at Carnegie Mellon’s Heinz School of Business, shows that people can be inconsistent about their desire for privacy. The economists at Carnegie Mellon found that most people feel entitled to have their private information protected, but conversely are willing to trade away their privacy for a small reward.
Consumers do not react with complete rationality when dealing with most things, let alone their privacy.
This is demonstrated everyday with loyalty programs which collect buying patterns or websites spruiking free iPods having discovered that they can collect gobs of data about their markets by offering sign-up freebies; these techniques are being used by savvy, and not so savvy, marketers alike. Marketers are simply turning consumer irrationality to their advantage.
The individual just doesn’t know what the information collector is going to do with their data and so often fails to consider the implications of giving away their private data.
It’s just plain difficult for a person to determine the risk of exposing personal information. Information may be resold or leaked accidentally, bartered, swapped or published; without foreknowledge of the final use of the data it is nearly impossible to accurately gauge the relative reward offered for the information. In economics terms, there exists “information asymmetry” between the collector (who has greater knowledge of what the information is for) and the consumer (who has to use limited information to make a decision).
Consumers are often unaware of the possible actions a marketer will take to collect their information (think: spyware) and are also ignorant of the steps they can take to protect their personal information.
The researchers tested the effects of spyware warnings and discovered that the more frequent and severe the warnings, the more likely consumers were to just install it anyway. Consumers’ decision-making is affected by biases, heuristics (e.g. simplified guesses), and optimistic risk analysis. The study found that people, overwhelmed by too much information, relied on simplistic strategies to decide whether or not to release their personal information. Rather than help, giving consumers too much information about their privacy leads to worse judgment.
Consumers who are concerned about their privacy must seek to better understand what information marketers can gather before making a decision to release their information and, for marketers, it seems that having a slick website and a free iPod offer is enough to get consumers to open up. How are you going to leverage personal data whether it is yours or your target markets?
Why do some retailers and department stores always seem to have sales on, no matter what time of year it is? Is it because they love their customers and want to give them the best price or is something else happening here?
When two like products are presented together, one will typically be seen by the individual as inferior to the other and similarly, the other will be seen as the superior. The exact positioning of the products is dependent on the cognitive bias that is set (anchored) by the individual. Depending on the type of person, the bias could be anchored towards price, value or brand.
In a book by psychologist, Barry Schwartz, he asks the question: How do you determine how much to spend on a suit? Schwartz suggests one way is to compare the price of one suit to another, which means using the other items as anchors, or standards. In a store that displays suits costing over $1,500, an $800 pinstripe suit may seem like a good buy. But in a store in which most of the suits costs less than $500, that same $800 suit might seem like an extravagance.
What we see here is this psychological heuristic influencing the way we assess probabilities and options. This means that those customer loving retailers aren’t trying to help us out in these hard times, they are trying to influence the way we make purchase decisions. By creating a superior option (similar product, with reduced price) they are guiding our decision process into purchasing the product they want us to buy.
Retailers don’t just use sales prices to create anchors, they can use similar products in different brands or even different models of the same product/brand.
Another example Schwartz gives is when a high-end catalog seller of mostly kitchen equipment and gourmet foods offered an automatic bread maker for $279. Sometime later, the catalog began to offer a larger capacity, deluxe version for $429. They didn’t sell too many of these expensive bread makers, but sales of the less expensive one almost doubled. With the expensive bread maker serving as an anchor, the $279 machine had become a bargain.
When setting prices for your own products, try and consider how each product will be anchored to the surrounding products. Is the anchor how big the product is? How loud it can go? How waterproof it is? Think about what people see as value and anchor the pricing around that.