It is much easier to strive for perfection when you are never bored.
We judge the size of categories by the ease with which instances came to mind. We called this reliance on the ease of memory search the availability heuristic.
People tend to assess the relative importance of issues by the ease with which they are retrieved from memory - and this is largely determined by the extent of coverage in the media.
A recurrent theme of this book is that luck plays a large role in every story of success; it is almost always easy to identify a small change in the story that would have turned a remarkable achievement into a mediocre outcome.
“The situation has provided a cue; this cue has given the expert access to information stored in memory, and the information provides the answer. Intuition is nothing more and nothing less than recognition.”
Affect heuristic, where judgments and decisions are guided directly by feelings of liking and disliking, with little deliberation or reasoning.
This is the essence of intuitive heuristics: when faced with a difficult question, we often answer an easier one instead, usually without noticing the substitution.
We are prone to overestimate how much we understand about the world and to underestimate the role of chance in events.
When we think of ourselves, we identify with System 2, the conscious, reasoning self that has beliefs, makes choices, and decides what to think about and what to do. Although System 2 believes itself to be where the action is, the automatic System 1 is the hero of the book.
The often-used phrase “pay attention” is apt: you dispose of a limited budget of attention that you can allocate to activities, and if you try to go beyond your budget, you will fail.
The gorilla study illustrates two important facts about our minds: we can be blind to the obvious, and we are also blind to our blindness.
The best we can do is a compromise: learn to recognize situations in which mistakes are likely and try harder to avoid significant mistakes when the stakes are high. The premise of this book is that it is easier to recognize other people’s mistakes than our own.
Speaking of System 1 and System 2:
- “He had an impression, but some of his impressions are illusions.”
- “This was a pure System 1 response. She reacted to the threat before she recognized it.”
- “This is your System 1 talking. Slow down and let your System 2 take control.”
The pupils are sensitive indicators of mental effort - they dilate substantially when people multiply two-digit numbers, and they dilate more if the problems are hard than if they are easy.
Mental life - today I would speak of the life of System 2 - is normally conducted at the pace of a comfortable walk, sometimes interrupted by episodes of jogging and on rare occasions by a frantic sprint. The Add-1 and Add-3 exercises are sprints, and casual chatting is a stroll.
Suppose you are shown four digits, say, 9462, and told that your life depends on holding them in memory for 10 seconds. However much you want to live, you cannot exert as much effort in this task as you would be forced to invest to complete an Add-3 transformation on the same digits.
As you become skilled in a task, its demand for energy diminishes.
One of the significant discoveries of cognitive psychologists in recent decades is that switching from one task to another is effortful, especially under time pressure. The need for rapid switching is one of the reasons that Add-3 and mental multiplication are so difficult. To perform the Add-3 task, you must hold several digits in your working memory at the same time, associating each with a particular operation: some digits are in the queue to be transformed, one is in the process of transformation, and others, already transformed, are retained for reporting.
Speaking of Attention and Effort
- “I won’t try to solve this while driving. This is a pupil-dilating task. It requires mental effort!”
- “The law of least effort is operating here. He will think as little as possible.”
- “She did not forget about the meeting. She was completely focused on something else when the meeting was set and she just didn’t hear you.”
- “What came quickly to my mind was an intuition from System 1. I’ll have to start over and search my memory deliberately.”
Frequent switching of tasks and speeded-up mental work are not intrinsically pleasurable, and that people avoid them when possible. This is how the law of least effort comes to be a law.
It is now a well-established proposition that both self-control and cognitive effort are forms of mental work.
Baumeister’s group has repeatedly found that an effort of will or self-control is tiring; if you have had to force yourself to do something, you are less willing or less able to exert self-control when the next challenge comes around. The phenomenon has been named ego depletion.
It suggests that when people believe a conclusion is true, they are also very likely to believe arguments that appear to support it, even when these arguments are unsound. If System 1 is involved, the conclusion comes first and the arguments follow.
Intelligence is not only the ability to reason; it is also the ability to find relevant material in memory and to deploy attention when needed.
Speaking of Control
- “She did not have to struggle to stay on task for hours. She was in a state of flow.”
- “His ego was depleted after a long day of meetings. So he just turned to standard operating procedures instead of thinking through the problem.”
- “He didn’t bother to check whether what he said made sense. Does he usually have a lazy System 2 or was he unusually tired?”
- “Unfortunately, she tends to say the first thing that comes into her mind. She probably also has trouble delaying gratification. Weak System 2.”
Associative activation: ideas that have been evoked trigger many other ideas, in a spreading cascade of activity in your brain.
We call this a priming effect and say that the idea of EAT primes the idea of SOUP, and that WASH primes SOAP.
This remarkable priming phenomenon— the influencing of an action by the idea— is known as the ideomotor effect.
The general theme of these findings is that the idea of money primes individualism: a reluctance to be involved with others, to depend on others, or to accept demands from others.
Living in a culture that surrounds us with reminders of money may shape our behavior and our attitudes in ways that we do not know about and of which we may not be proud.
In a subsequent test of the desirability of various products, people who had lied on the phone preferred mouthwash over soap, and those who had lied in e-mail preferred soap to mouthwash.
You do not believe that these results apply to you because they correspond to nothing in your subjective experience. But your subjective experience consists largely of the story that your System 2 tells itself about what is going on. Priming phenomena arise in System 1, and you have no conscious access to them.
Speaking of Priming
- “The sight of all these people in uniforms does not prime creativity.”
- “The world makes much less sense than you think. The coherence comes mostly from the way your mind works.”
- “They were primed to find flaws, and this is exactly what they found.”
- “His System 1 constructed a story, and his System 2 believed it. It happens to all of us.”
- “I made myself smile and I’m actually feeling better!”
The name David Stenbill will look familiar when you see it because you will see it more clearly. Words that you have seen before become easier to see again— you can identify them better than other words when they are shown very briefly or masked by noise, and you will be quicker (by a few hundredths of a second) to read them than to read other words. In short, you experience greater cognitive ease in perceiving a word you have seen earlier, and it is this sense of ease that gives you the impression of familiarity.
A reliable way to make people believe in falsehoods is frequent repetition, because familiarity is not easily distinguished from truth.
The general principle is that anything you can do to reduce cognitive strain will help, so you should first maximize legibility.
The results tell a clear story: 90% of the students who saw the CRT in normal font made at least one mistake in the test, but the proportion dropped to 35% when the font was barely legible. You read this correctly: performance was better with the bad font. Cognitive strain, whatever its source, mobilizes System 2, which is more likely to reject the intuitive answer suggested by System 1.
Zajonc argued that the effect of repetition on liking is a profoundly important biological fact, and that it extends to all animals. To survive in a frequently dangerous world, an organism should react cautiously to a novel stimulus, with withdrawal and fear.
Mood evidently affects the operation of System 1: when we are uncomfortable and unhappy, we lose touch with our intuition.
Cognitive ease and smiling occur together, but do the good feelings actually lead to intuitions of coherence? Yes, they do.
Speaking of Cognitive Ease
- “Let’s not dismiss their business plan just because the font makes it hard to read.”
- “We must be inclined to believe it because it has been repeated so often, but let’s think it through again.”
- “Familiarity breeds liking. This is a mere exposure effect.”
- “I’m in a very good mood today, and my System 2 is weaker than usual. I should be extra careful.”
Surprise itself is the most sensitive indication of how we understand our world and what we expect from it.
We are evidently ready from birth to have impressions of causality, which do not depend on reasoning about patterns of causation. They are products of System 1.
Speaking of Norms and Causes
- “When the second applicant also turned out to be an old friend of mine, I wasn’t quite as surprised. Very little repetition is needed for a new experience to feel normal!”
- “When we survey the reaction to these products, let’s make sure we don’t focus exclusively on the average. We should consider the entire range of normal reactions.”
- “She can’t accept that she was just unlucky; she needs a causal story. She will end up thinking that someone intentionally sabotaged her work.”
Jumping to conclusions is efficient if the conclusions are likely to be correct and the costs of an occasional mistake acceptable, and if the jump saves much time and effort. Jumping to conclusions is risky when the situation is unfamiliar, the stakes are high, and there is no time to collect more information.
The most important aspect of both examples is that a definite choice was made, but you did not know it. Only one interpretation came to mind, and you were never aware of the ambiguity. System 1 does not keep track of alternatives that it rejects, or even of the fact that there were alternatives.
The moral is significant: when System 2 is otherwise engaged, we will believe almost anything. System 1 is gullible and biased to believe, System 2 is in charge of doubting and unbelieving, but System 2 is sometimes busy, and often lazy. Indeed, there is evidence that people are more likely to be influenced by empty persuasive messages, such as commercials, when they are tired and depleted.
The tendency to like (or dislike) everything about a person— including things you have not observed— is known as the halo effect.
But you like Joan and you will retrieve the feeling of liking her when you think of her. You also like generosity and generous people. By association, you are now predisposed to believe that Joan is generous.
The sequence in which we observe characteristics of a person is often determined by chance. Sequence matters, however, because the halo effect increases the weight of first impressions, sometimes to the point that subsequent information is mostly wasted.
A simple rule can help: before an issue is discussed, all members of the committee should be asked to write a very brief summary of their position. This procedure makes good use of the value of the diversity of knowledge and opinion in the group. The standard practice of open discussion gives too much weight to the opinions of those who speak early and assertively, causing others to line up behind them.
WYSIATI, which stands for what you see is all there is. System 1 is radically insensitive to both the quality and the quantity of the information that gives rise to impressions and intuitions. It is the consistency of the information that matters for a good story, not its completeness. Indeed, you will often find that knowing little makes it easier to fit everything you know into a coherent pattern.
The confidence that individuals have in their beliefs depends mostly on the quality of the story they can tell about what they see, even if they see little.
Speaking of Jumping to Conclusions:
- “She knows nothing about this person’s management skills. All she is going by is the halo effect from a good presentation.”
- “Let’s decorrelate errors by obtaining separate judgments on the issue before any discussion. We will get more information from independent assessments.”
- “They made that big decision on the basis of a good report from one consultant. WYSIATI— what you see is all there is. They did not seem to realize how little information they had.”
- “They didn’t want more information that might spoil their story. WYSIATI.”
Good mood and cognitive ease are the human equivalents of assessments of safety and familiarity.
Because System 1 represents categories by a prototype or a set of typical exemplars, it deals well with averages but poorly with sums.
Speaking of Judgement:
- “Evaluating people as attractive or not is a basic assessment. You do that automatically whether or not you want to, and it influences you.”
- “There are circuits in the brain that evaluate dominance from the shape of the face. He looks the part for a leadership role.”
- “The punishment won’t feel just unless its intensity matches the crime. Just like you can match the loudness of a sound to the brightness of a light.”
- “This was a clear instance of a mental shotgun. He was asked whether he thought the company was financially sound, but he couldn’t forget that he likes their product.”
Whether you state them or not, you often have answers to questions that you do not completely understand, relying on evidence that you can neither explain nor defend.
If a satisfactory answer to a hard question is not found quickly, System 1 will find a related question that is easier and will answer it.
When called upon to judge probability, people actually judge something else and believe they have judged probability.
Speaking of Substitution and Heuristics:
- “Do we still remember the question we are trying to answer? Or have we substituted an easier one?”
- “The question we face is whether this candidate can succeed. The question we seem to answer is whether she interviews well. Let’s not substitute.”
- “He likes the project, so he thinks its costs are low and its benefits are high. Nice example of the affect heuristic.”
- “We are using last year’s performance as a heuristic to predict the value of the firm several years from now. Is this heuristic good enough? What other information do we need?”
The satisfying sense of causation that you experience when thinking of a hammer hitting an egg is altogether absent when you think about sampling.
But do you discriminate sufficiently between “I read in The New York Times…” and “I heard at the watercooler…”? Can your System 1 distinguish degrees of belief? The principle of WYSIATI suggests that it cannot.
The associative machinery seeks causes. The difficulty we have with statistical regularities is that they call for a different approach.
We are pattern seekers, believers in a coherent world, in which regularities (such as a sequence of six girls) appear not by accident but as a result of mechanical causality or of someone’s intention.
We are far too willing to reject the belief that much of what we see in life is random.
Speaking of the Law of Small Numbers:
- “Yes, the studio has had three successful films since the new CEO took over. But it is too early to declare he has a hot hand.”
- “I won’t believe that the new trader is a genius before consulting a statistician who could estimate the likelihood of his streak being a chance event.”
- “The sample of observations is too small to make any inferences. Let’s not follow the law of small numbers.”
- “I plan to keep the results of the experiment secret until we have a sufficiently large sample. Otherwise we will face pressure to reach a conclusion prematurely.”
System 1 tries its best to construct a world in which the anchor is the true number. This is one of the manifestations of associative coherence that I described in the first part of the book.
The selective activation of compatible memories explains anchoring: the high and the low numbers activate different sets of ideas in memory.
On some days, a sign on the shelf said limit of 12 per person. On other days, the sign said no limit per person. Shoppers purchased an average of 7 cans when the limit was in force, twice as many as they bought when the limit was removed.
My advice to students when I taught negotiations was that if you think the other side has made an outrageous proposal, you should not come back with an equally outrageous counteroffer, creating a gap that will be difficult to bridge in further negotiations. Instead you should make a scene, storm out or threaten to do so, and make it clear— to yourself as well as to the other side— that you will not continue the negotiation with that number on the table.
They instructed negotiators to focus their attention and search their memory for arguments against the anchor.
Speaking of Anchors:
- “The firm we want to acquire sent us their business plan, with the revenue they expect. We shouldn’t let that number influence our thinking. Set it aside.”
- “Plans are best-case scenarios. Let’s avoid anchoring on plans when we forecast actual outcomes. Thinking about ways the plan could go wrong is one way to do it.”
- “Our aim in the negotiation is to get them anchored on this number.”
- “Let’s make it clear that if that is their proposal, the negotiations are over. We do not want to start there.”
- “The defendant’s lawyers put in a frivolous reference in which they mentioned a ridiculously low amount of damages, and they got the judge anchored on it!”
Ff retrieval is easy and fluent, the category will be judged to be large. We defined the availability heuristic as the process of judging frequency by “the ease with which instances come to mind.”
Speaking of Availability:
- “Because of the coincidence of two planes crashing last month, she now prefers to take the train. That’s silly. The risk hasn’t really changed; it is an availability bias.”
- “He underestimates the risks of indoor pollution because there are few media stories on them. That’s an availability effect. He should look at the statistics.”
- “She has been watching too many spy movies recently, so she’s seeing conspiracies everywhere.”
- “The CEO has had several successes in a row, so failure doesn’t come easily to her mind. The availability bias is making her overconfident.”
The world in our heads is not a precise replica of reality; our expectations about the frequency of events are distorted by the prevalence and emotional intensity of the messages to which we are exposed.
Speaking of Availability Cascades:
- “She’s raving about an innovation that has large benefits and no costs. I suspect the affect heuristic.”
- “This is an availability cascade: a nonevent that is inflated by the media and the public until it fills our TV screens and becomes all anyone is talking about.”
Although he knew as much as anyone about the role of base rates in prediction, he neglected them when presented with the description of an individual’s personality.
Speaking of Representativeness:
- “The lawn is well trimmed, the receptionist looks competent, and the furniture is attractive, but this doesn’t mean it is a well-managed company. I hope the board does not go by representativeness.”
- “This start-up looks as if it could not fail, but the base rate of success in the industry is extremely low. How do we know this case is different?”
- “They keep making the same mistake: predicting rare events from weak evidence. When the evidence is weak, one should stick with the base rates.”
- “I know this report is absolutely damning, and it may be based on solid evidence, but how sure are we? We must allow for that uncertainty in our thinking.”
The most representative outcomes combine with the personality description to produce the most coherent stories. The most coherent stories are not necessarily the most probable, but they are plausible, and the notions of coherence, plausibility, and probability are easily confused by the unwary.
He auctioned sets of ten high-value cards, and identical sets to which three cards of modest value were added. As in the dinnerware experiment, the larger sets were valued more than the smaller ones in joint evaluation, but less in single evaluation.
Speaking of Less is More:
- “They constructed a very complicated scenario and insisted on calling it highly probable. It is not— it is only a plausible story.”
- “They added a cheap gift to the expensive product, and made the whole deal less attractive. Less is more in this case.”
- “In most situations, a direct comparison makes people more careful and more logical. But not always. Sometimes intuition beats logic even when the correct answer stares you in the face.”
The experiment shows that individuals feel relieved of responsibility when they know that others have heard the same request for help.
Subjects’ unwillingness to deduce the particular from the general was matched only by their willingness to infer the general from the particular.
Speaking of Causes and Statistics:
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“We can’t assume that they will really learn anything from mere statistics. Let’s show them one or two representative individual cases to influence their System 1
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“No need to worry about this statistical information being ignored. On the contrary, it will immediately be used to feed a stereotype.”
Success = talent + luck Great success = a little more talent + a lot of luck
Highly intelligent women tend to marry men who are less intelligent than they are. You can get a good conversation started at a party by asking for an explanation, and your friends will readily oblige.
Causal explanations will be evoked when regression is detected, but they will be wrong because the truth is that regression to the mean has an explanation but does not have a cause.
The relationship between correlation and regression remains obscure. System 2 finds it difficult to understand and learn. This is due in part to the insistent demand for causal interpretations, which is a feature of System 1.
Speaking of Regression to Mediocrity:
- “She says experience has taught her that criticism is more effective than praise. What she doesn’t understand is that it’s all due to regression to the mean.”
- “Perhaps his second interview was less impressive than the first because he was afraid of disappointing us, but more likely it was his first that was unusually good.”
- “Our screening procedure is good but not perfect, so we should anticipate regression. We shouldn’t be surprised that the very best candidates often fail to meet our expectations.”
People are asked for a prediction but they substitute an evaluation of the evidence, without noticing that the question they answer is not the one they were asked.
Speaking of Intuitive Predictions:
- “That start-up achieved an outstanding proof of concept, but we shouldn’t expect them to do as well in the future. They are still a long way from the market and there is a lot of room for regression.”
- “Our intuitive prediction is very favorable, but it is probably too high. Let’s take into account the strength of our evidence and regress the prediction toward the mean.”
- “The investment may be a good idea, even if the best guess is that it will fail. Let's not say we really believe it is the next Google.”
- “I read one review of that brand and it was excellent. Still, that could have been a fluke. Let’s consider only the brands that have a large number of reviews and pick the one that looks
Narrative fallacies arise inevitably from our continuous attempt to make sense of the world. The explanatory stories that people find compelling are simple; are concrete rather than abstract; assign a larger role to talent, stupidity, and intentions than to luck; and focus on a few striking events that happened rather than on the countless events that failed to happen.
A year after founding Google, they were willing to sell their company for less than $ 1 million, but the buyer said the price was too high. Mentioning the single lucky incident actually makes it easier to underestimate the multitude of ways in which luck affected the outcome.
The human mind does not deal well with nonevents. The fact that many of the important events that did occur involve choices further tempts you to exaggerate the role of skill and underestimate the part that luck played in the outcome.
Our comforting conviction that the world makes sense rests on a secure foundation: our almost unlimited ability to ignore our ignorance.
Your inability to reconstruct past beliefs will inevitably cause you to underestimate the extent to which you were surprised by past events.
He concludes that stories of success and failure consistently exaggerate the impact of leadership style and management practices on firm outcomes, and thus their message is rarely useful.
The halo effect and outcome bias combine to explain the extraordinary appeal of books that seek to draw operational morals from systematic examination of successful businesses.
Speaking of Hindsight:
- “The mistake appears obvious, but it is just hindsight. You could not have known in advance.”
- “He’s learning too much from this success story, which is too tidy. He has fallen for a narrative fallacy.”
- “She has no evidence for saying that the firm is badly managed. All she knows is that its stock has gone down. This is an outcome bias, part hindsight and part halo effect.”
- “Let’s not fall for the outcome bias. This was a stupid decision even though it worked out well.”
Confidence is a feeling, which reflects the coherence of the information and the cognitive ease of processing it. It is wise to take admissions of uncertainty seriously, but declarations of high confidence mainly tell you that an individual has constructed a coherent story in his mind, not necessarily that the story is true.
There is general agreement among researchers that nearly all stock pickers, whether they know it or not— and few of them do— are playing a game of chance. The subjective experience of traders is that they are making sensible educated guesses in a situation of great uncertainty. In highly efficient markets, however, educated guesses are no more accurate than blind guesses.
The illusion of skill is not only an individual aberration; it is deeply ingrained in the culture of the industry. Facts that challenge such basic assumptions— and thereby threaten people’s livelihood and self-esteem— are simply not absorbed.
In other words, people who spend their time, and earn their living, studying a particular topic produce poorer predictions than dart-throwing monkeys who would have distributed their choices evenly over the options.
Speaking of Illusory Skill:
- “He knows that the record indicates that the development of this illness is mostly unpredictable. How can he be so confident in this case? Sounds like an illusion of validity.”
- “She has a coherent story that explains all she knows, and the coherence makes her feel good.”
- “What makes him believe that he is smarter than the market? Is this an illusion of skill?”
- “She is a hedgehog. She has a theory that explains everything, and it gives her the illusion that she understands the world.”
- “The question is not whether these experts are well trained. It is whether their world is predictable.”
They feel that they can overrule the formula because they have additional information about the case, but they are wrong more often than not.
Experienced radiologists who evaluate chest X-rays as “normal” or “abnormal” contradict themselves 20% of the time when they see the same picture on separate occasions.
Speaking of Judges vs. Formulas:
- “Whenever we can replace human judgment by a formula, we should at least consider it.”
- “He thinks his judgments are complex and subtle, but a simple combination of scores could probably do better.”
- “Let’s decide in advance what weight to give to the data we have on the candidates’ past performance. Otherwise we will give too much weight to our impression from the interviews.”
“The situation has provided a cue; this cue has given the expert access to information stored in memory, and the information provides the answer. Intuition is nothing more and nothing less than recognition.”
The answer comes from the two basic conditions for acquiring a skill: an environment that is sufficiently regular to be predictable an opportunity to learn these regularities through prolonged practice When both these conditions are satisfied, intuitions are likely to be skilled.
It is wrong to blame anyone for failing to forecast accurately in an unpredictable world. However, it seems fair to blame professionals for believing they can succeed in an impossible task.
Similarly, a financial expert may have skills in many aspects of his trade but not in picking stocks, and an expert in the Middle East knows many things but not the future.
When evaluating expert intuition you should always consider whether there was an adequate opportunity to learn the cues, even in a regular environment.
Speaking of Expert Intuition:
- “How much expertise does she have in this particular task? How much practice has she had?”
- “Does he really believe that the environment of start-ups is sufficiently regular to justify an intuition that goes against the base rates?”
- “She is very confident in her decision, but subjective confidence is a poor index of the accuracy of a judgment.”
- “Did he really have an opportunity to learn? How quick and how clear was the feedback he received on his judgments?”
The proper way to elicit information from a group is not by starting with a public discussion but by confidentially collecting each person’s judgment.
The new forecast still seemed unreal, because we could not imagine how it could take so long to finish a project that looked so manageable. No crystal ball was available to tell us the strange sequence of unlikely events that were in our future.
There are many ways for any plan to fail, and although most of them are too improbable to be anticipated, the likelihood that something will go wrong in a big project is high.
If the reference class is properly chosen, the outside view will give an indication of where the ballpark is, and it may suggest, as it did in our case, that the inside-view forecasts are not even close to it.
My request for the outside view surprised all of us, including me! This is a common pattern: people who have information about an individual case rarely feel the need to know the statistics of the class to which the case belongs.
Amos and I coined the term planning fallacy to describe plans and forecasts that are unrealistically close to best-case scenarios could be improved by consulting the statistics of similar cases.
The prevalent tendency to underweight or ignore distributional information is perhaps the major source of error in forecasting. Planners should therefore make every effort to frame the forecasting problem so as to facilitate utilizing all the distributional information that is available.
Using such distributional information from other ventures similar to that being forecasted is called taking an “outside view” and is the cure to the planning fallacy.
When forecasting the outcomes of risky projects, executives too easily fall victim to the planning fallacy. In its grip, they make decisions based on delusional optimism rather than on a rational weighting of gains, losses, and probabilities.
In this view, people often (but not always) take on risky projects because they are overly optimistic about the odds they face.
Speaking of the Outside View:
- “He’s taking an inside view. He should forget about his own case and look for what happened in other cases.”
- “She is the victim of a planning fallacy. She’s assuming a best-case scenario, but there are too many different ways for the plan to fail, and she cannot foresee them all.”
- “Suppose you did not know a thing about this particular legal case, only that it involves a malpractice claim by an individual against a surgeon. What would be your baseline prediction? How many of these cases succeed in court? How many settle? What are the amounts? Is the case we are discussing stronger or weaker than similar claims?”
- “We are making an additional investment because we do not want to admit failure. This is an instance of the sunk-cost fallacy.”
An optimistic attitude is largely inherited, and it is part of a general disposition for well-being, which may also include a preference for seeing the bright side of everything.
This reasoning leads to a hypothesis: the people who have the greatest influence on the lives of others are likely to be optimistic and overconfident, and to take more risks than they realize.
More often than not, risk takers underestimate the odds they face, and do invest sufficient effort to find out what the odds are. Because they misread the risks, optimistic entrepreneurs often believe they are prudent, even when they are not.
One of the benefits of an optimistic temperament is that it encourages persistence in the face of obstacles. But persistence can be costly.
More generally, the financial benefits of self-employment are mediocre: given the same qualifications, people achieve higher average returns by selling their skills to employers than by setting out on their own.
“We find that firms with award-winning CEOs subsequently underperform, in terms both of stock and of operating performance. At the same time, CEO compensation increases, CEOs spend more time on activities outside the company such as writing books and sitting on outside boards, and they are more likely to engage in earnings management.”
To what extent will the outcome of your effort depend on what you do in your firm? This is evidently an easy question; the answer comes quickly and in my small sample it has never been less than 80%. Even when they are not sure they will succeed, these bold people think their fate is almost entirely in their own hands. They are surely wrong: the outcome of a start-up depends as much on the achievements of its competitors and on changes in the market as on its own efforts.
The wide confidence interval is a confession of ignorance, which is not socially acceptable for someone who is paid to be knowledgeable in financial matters. Even if they knew how little they know, the executives would be penalized for admitting it.
Other professionals must deal with the fact that an expert worthy of the name is expected to display high confidence. Philip Tetlock observed that the most overconfident experts were the most likely to be invited to strut their stuff in news shows.
The admission that one is merely guessing is especially unacceptable when the stakes are high. Acting on pretended knowledge is often the preferred solution.
The main benefit of optimism is resilience in the face of setbacks.
“Imagine that we are a year into the future. We implemented the plan as it now exists. The outcome was a disaster. Please take 5 to 10 minutes to write a brief history of that disaster.”
Speaking of Optimism:
- “They have an illusion of control. They seriously underestimate the obstacles.”
- “They seem to suffer from an acute case of competitor neglect.”
- “This is a case of overconfidence. They seem to believe they know more than they actually do know.”
- “We should conduct a premortem session. Someone may come up with a threat we have neglected.”
Speaking of Bernoulli’s Errors:
- “He was very happy with a $ 20,000 bonus three years ago, but his salary has gone up by 20% since, so he will need a higher bonus to get the same utility.”
- “Both candidates are willing to accept the salary we’re offering, but they won’t be equally satisfied because their reference points are different. She currently has a much higher salary.”
- “She’s suing him for alimony. She would actually like to settle, but he prefers to go to court. That’s not surprising— she can only gain, so she’s risk averse. He, on the other hand, faces options that are all bad, so he’d rather take the risk.”
People become risk seeking when all their options are bad.
The reason you like the idea of gaining $ 100 and dislike the idea of losing $100 is not that these amounts change your wealth. You just like winning and dislike losing— and you almost certainly dislike losing more than you like winning.
The “loss aversion ratio” has been estimated in several experiments and is usually in the range of 1.5 to 2.5.
In simple words, prospect theory cannot deal with disappointment.
Speaking of Prospect Theory:
- “He suffers from extreme loss aversion, which makes him turn down very favorable opportunities.”
- “Considering her vast wealth, her emotional response to trivial gains and losses makes no sense.”
- “He weighs losses about twice as much as gains, which is normal.”
Second, the disadvantages of a change loom larger than its advantages, inducing a bias that favors the status quo.
The distinctive feature is that both the shoes the merchant sells you and the money you spend from your budget for shoes are held “for exchange.” They are intended to be traded for other goods. Other goods, such as wine and Super Bowl tickets, are held “for use,” to be consumed or otherwise enjoyed. Your leisure time and the standard of living that your income supports are also not intended for sale or exchange.
Participants displayed an endowment effect only if they had physical possession of the good for a while before the possibility of trading it was mentioned.
Speaking of the Endowment Effect:
- “She didn’t care which of the two offices she would get, but a day after the announcement was made, she was no longer willing to trade. Endowment effect!”
- “These negotiations are going nowhere because both sides find it difficult to make concessions, even when they can get something in return. Losses loom larger than gains.”
- “When they raised their prices, demand dried up.”
- “He just hates the idea of selling his house for less money than he paid for it. Loss aversion is at work.”
- “He is a miser, and treats any dollar he spends as a loss.”
The brains of humans and other animals contain a mechanism that is designed to give priority to bad news.
“Bad emotions, bad parents, and bad feedback have more impact than good ones, and bad information is processed more thoroughly than good. The self is more motivated to avoid bad self-definitions than to pursue good ones. Bad impressions and bad stereotypes are quicker to form and more resistant to disconfirmation than good ones.”
The asymmetric intensity of the motives to avoid losses and to achieve gains shows up almost everywhere. It is an ever-present feature of negotiations, especially of renegotiations of an existing contract.
A basic rule of fairness, we found, is that the exploitation of market power to impose losses on others is unacceptable.
A substantial majority of respondents believed that it is not unfair for a firm to reduce its workers’ wages when its profitability is falling.
More recent research has supported the observations of reference-dependent fairness and has also shown that fairness concerns are economically significant, a fact we had suspected but did not prove.
Remarkably, altruistic punishment is accompanied by increased activity in the “pleasure centers” of the brain. It appears that maintaining the social order and the rules of fairness in this fashion is its own reward. Altruistic punishment could well be the glue that holds societies together. However, our brains are not designed to reward generosity as reliably as they punish meanness. Here again, we find a marked asymmetry between losses and gains.
Speaking of Losses:
- “This reform will not pass. Those who stand to lose will fight harder than those who stand to gain.”
- “Each of them thinks the other’s concessions are less painful. They are both wrong, of course. It’s just the asymmetry of losses.”
- “They would find it easier to renegotiate the agreement if they realized the pie was actually expanding. They’re not allocating losses; they are allocating gains.”
- “Rental prices around here have gone up recently, but our tenants don’t think it’s fair that we should raise their rent, too. They feel entitled to their current terms.”
- “My clients don’t resent the price hike because they know my costs have gone up, too. They accept my right to stay profitable.”
The large impact of 0 -> 5% illustrates the possibility effect, which causes highly unlikely outcomes to be weighted disproportionately more than they “deserve.” People who buy lottery tickets in vast amounts show themselves willing to pay much more than expected value for very small chances to win a large prize.
People attach values to gains and losses rather than to wealth, and the decision weights that they assign to outcomes are different from probabilities.
Many unfortunate human situations unfold in the top right cell. This is where people who face very bad options take desperate gambles, accepting a high probability of making things worse in exchange for a small hope of avoiding a large loss. Risk taking of this kind often turns manageable failures into disasters. The thought of accepting the large sure loss is too painful, and the hope of complete relief too enticing, to make the sensible decision that it is time to cut one’s losses. This is where businesses that are losing ground to a superior technology waste their remaining assets in futile attempts to catch up.
Speaking of the Fourfold Pattern:
- “He is tempted to settle this frivolous claim to avoid a freak loss, however unlikely. That’s overweighting of small probabilities. Since he is likely to face many similar problems, he would be better off not yielding.”
- “We never let our vacations hang on a last-minute deal. We’re willing to pay a lot for certainty.”
- “They will not cut their losses so long as there is a chance of breaking even. This is risk-seeking in the losses.”
- “They know the risk of a gas explosion is minuscule, but they want it mitigated. It’s a possibility effect, and they want peace of mind.”
My experience illustrates how terrorism works and why it is so effective: it induces an availability cascade. An extremely vivid image of death and damage, constantly reinforced by media attention
The successful execution of a plan is specific and easy to imagine when one tries to forecast the outcome of a project. In contrast, the alternative of failure is diffuse, because there are innumerable ways for things to go wrong.
The story, I believe, is that a rich and vivid representation of the outcome, whether or not it is emotional, reduces the role of probability in the evaluation of an uncertain prospect.
Adding irrelevant but vivid details to a monetary outcome also disrupts calculation.
A good attorney who wishes to cast doubt on DNA evidence will not tell the jury that “the chance of a false match is 0.1%.” The statement that “a false match occurs in 1 of 1,000 capital cases” is far more likely to pass the threshold of reasonable doubt.
Salience is enhanced by mere mention of an event, by its vividness, and by the format in which probability is described.
The results of many experiments suggest that rare events are not overweighted when we make decisions such as choosing a restaurant or tying down the boiler to reduce earthquake damage.
The probability of a rare event will (often, not always) be overestimated, because of the confirmatory bias of memory. Thinking about that event, you try to make it true in your mind. A rare event will be overweighted if it specifically attracts attention.
Speaking of Rare Events:
- “Tsunamis are very rare even in Japan, but the image is so vivid and compelling that tourists are bound to overestimate their probability.”
- “It’s the familiar disaster cycle. Begin by exaggeration and overweighting, then neglect sets in.”
- “We shouldn’t focus on a single scenario, or we will overestimate its probability. Let’s set up specific alternatives and make the probabilities add up to 100%.”
- “They want people to be worried by the risk. That’s why they describe it as 1 death per 1,000. They’re counting on denominator neglect.”
This is generally true: every simple choice formulated in terms of gains and losses can be deconstructed in innumerable ways into a combination of choices, yielding preferences that are likely to be inconsistent.
Because we are susceptible to WYSIATI and averse to mental effort, we tend to make decisions as problems arise, even when we are specifically instructed to consider them jointly.
Here are two favorable gambles, which individually are worth nothing to Sam. If he encounters the offer on two separate occasions, he will turn it down both times. However, if he bundles the two offers together, they are jointly worth $50!
I sympathize with your aversion to losing any gamble, but it is costing you a lot of money. Please consider this question: Are you on your deathbed? Is this the last offer of a small favorable gamble that you will ever consider? Of course, you are unlikely to be offered exactly this gamble again, but you will have many opportunities to consider attractive gambles with stakes that are very small relative to your wealth. You will do yourself a large financial favor if you are able to see each of these gambles as part of a bundle of small gambles and rehearse the mantra that will get you significantly closer to economic rationality: you win a few, you lose a few. The main purpose of the mantra is to control your emotional response when you do lose.
Closely following daily fluctuations is a losing proposition, because the pain of the frequent small losses exceeds the pleasure of the equally frequent small gains.
Speaking of Risk Policies:
- “Tell her to think like a trader! You win a few, you lose a few.”
- “I decided to evaluate my portfolio only once a quarter. I am too loss averse to make sensible decisions in the face of daily price fluctuations.”
- “They never buy extended warranties. That’s their risk policy.”
- “Each of our executives is loss averse in his or her domain. That’s perfectly natural, but the result is that the organization is not taking enough risk.”
Except for the very poor, for whom income coincides with survival, the main motivators of money-seeking are not necessarily economic. For the billionaire looking for the extra billion, and indeed for the participant in an experimental economics project looking for the extra dollar, money is a proxy for points on a scale of self-regard and achievement.
The disposition effect is an instance of narrow framing. The investor has set up an account for each share that she bought, and she wants to close every account as a gain.
The escalation of commitment to failing endeavors is a mistake from the perspective of the firm but not necessarily from the perspective of the executive who “owns” a floundering project. Canceling the project will leave a permanent stain on the executive’s record, and his personal interests are perhaps best served by gambling further with the organization’s resources in the hope of recouping the original investment— or at least in an attempt to postpone the day of reckoning. In the presence of sunk costs, the manager’s incentives are misaligned with the objectives of the firm and its shareholders, a familiar type of what is known as the agency problem. Boards of directors are well aware of these conflicts and often replace a CEO who is encumbered by prior decisions and reluctant to cut losses. The members of the board do not necessarily believe that the new CEO is more competent than the one she replaces. They do know that she does not carry the same mental accounts and is therefore better able to ignore the sunk costs of past investments in evaluating current opportunities.
People expect to have stronger emotional reactions (including regret) to an outcome that is produced by action than to the same outcome when it is produced by inaction.
The default option when you own a stock is not to sell it, but the default option when you meet your colleague in the morning is to greet him. Selling a stock and failing to greet your coworker are both departures from the default option and natural candidates for regret or blame.
We spend much of our day anticipating, and trying to avoid, the emotional pains we inflict on ourselves. How seriously should we take these intangible outcomes, the self-administered punishments (and occasional rewards) that we experience as we score our lives?
Speaking of Keeping Score:
- “He has separate mental accounts for cash and credit purchases. I constantly remind him that money is money.”
- “We are hanging on to that stock just to avoid closing our mental account at a loss. It’s the disposition effect.”
- “We discovered an excellent dish at that restaurant and we never try anything else, to avoid regret.”
- “The salesperson showed me the most expensive car seat and said it was the safest, and I could not bring myself to buy the cheaper model. It felt like a taboo tradeoff.”
Joint evaluation highlights a feature that was not noticeable in single evaluation but is recognized as decisive when detected: farmers are human, dolphins are not. You knew that, of course, but it was not relevant to the judgment that you made in single evaluation. The fact that dolphins are not human did not arise because all the issues that were activated in your memory shared that feature.
As we have seen, rationality is generally served by broader and more comprehensive frames, and joint evaluation is obviously broader than single evaluation. Of course, you should be wary of joint evaluation when someone who controls what you see has a vested interest in what you choose.
Speaking of Reversals:
- “The BTU units meant nothing to me until I saw how much air-conditioning units vary. Joint evaluation was essential.”
- “You say this was an outstanding speech because you compared it to her other speeches. Compared to others, she was still inferior.”
- “It is often the case that when you broaden the frame, you reach more reasonable decisions.”
- “When you see cases in isolation, you are likely to be guided by an emotional reaction of System 1.”
A bad outcome is much more acceptable if it is framed as the cost of a lottery ticket that did not win than if it is simply described as losing a gamble. We should not be surprised: losses evokes stronger negative feelings than costs.
Thaler, who told us that when he was a graduate student he had pinned on his board a card that said costs are not losses.
We can recognize System 1 at work. It delivers an immediate response to any question about rich and poor: when in doubt, favor the poor. The surprising aspect of Schelling’s problem is that this apparently simple moral rule does not work reliably. It generates contradictory answers to the same problem, depending on how that problem is framed.
Our preferences are about framed problems, and our moral intuitions are about descriptions, not about substance.
Speaking of Frames and Reality:
- “They will feel better about what happened if they manage to frame the outcome in terms of how much money they kept rather than how much they lost.”
- “Let’s reframe the problem by changing the reference point. Imagine we did not own it; how much would we think it is worth?”
- “Charge the loss to your mental account of ‘general revenue’— you will feel better!”
- “They ask you to check the box to opt out of their mailing list. Their list would shrink if they asked you to check a box to opt in!”
Peak-end rule: The global retrospective rating was well predicted by the average of the level of pain reported at the worst moment of the experience and at its end.
The experiencing self is the one that answers the question: “Does it hurt now?” The remembering self is the one that answers the question: “How was it, on the whole?”
The experiencing self does not have a voice. The remembering self is sometimes wrong, but it is the one that keeps score and governs what we learn from living, and it is the one that makes decisions. What we learn from the past is to maximize the qualities of our future memories, not necessarily of our future experience. This is the tyranny of the remembering self.
The evidence presents a profound challenge to the idea that humans have consistent preferences and know how to maximize them, a cornerstone of the rational-agent model.
Speaking of Two Selves:
- “You are thinking of your failed marriage entirely from the perspective of the remembering self. A divorce is like a symphony with a screeching sound at the end— the fact that it ended badly does not mean it was all bad.”
- “This is a bad case of duration neglect. You are giving the good and the bad part of your experience equal weight, although the good part lasted ten times as long as the other.”
A story is about significant events and memorable moments, not about time passing. Duration neglect is normal in a story, and the ending often defines its character.
As a consequence, her “total happiness” was the happiness of a typical period in her lifetime, not the sum (or integral) of happiness over the duration of her life.
We all share the intuition that it is much worse for labor to last 24 than 6 hours, and that 6 days at a good resort is better than 3. Duration appears to matter in these situations, but this is only because the quality of the end changes with the length of the episode. The mother is more depleted and helpless after 24 hours than after 6, and the vacationer is more refreshed and rested after 6 days than after 3. What truly matters when we intuitively assess such episodes is the progressive deterioration or improvement of the ongoing experience, and how the person feels at the end.
Tourism is about helping people construct stories and collect memories. The frenetic picture taking of many tourists suggests that storing memories is often an important goal, which shapes both the plans for the vacation and the experience of it.
At the end of the vacation, all pictures and videos will be destroyed. Furthermore, you will swallow a potion that will wipe out all your memories of the vacation. How would this prospect affect your vacation plans? How much would you be willing to pay for it, relative to a normally memorable vacation?
Speaking of Life as a Story:
- “He is desperately trying to protect the narrative of a life of integrity, which is endangered by the latest episode.”
- “The length to which he was willing to go for a one-night encounter is a sign of total duration neglect.”
- “You seem to be devoting your entire vacation to the construction of memories. Perhaps you should put away the camera and enjoy the moment, even if it is not very memorable?”
- “She is an Alzheimer’s patient. She no longer maintains a narrative of her life, but her experiencing self is still sensitive to beauty and gentleness.”
Not surprisingly, a headache will make a person miserable, and the second best predictor of the feelings of a day is whether a person did or did not have contacts with friends or relatives. It is only a slight exaggeration to say that happiness is the experience of spending time with people you love and who love you.
Why do these added pleasures not show up in reports of emotional experience? A plausible interpretation is that higher income is associated with a reduced ability to enjoy the small pleasures of life. There is suggestive evidence in favor of this idea: priming students with the idea of wealth reduces the pleasure their face expresses as they eat a bar of chocolate!
Speaking of Experienced Well-Being:
- “The objective of policy should be to reduce human suffering. We aim for a lower U-index in society. Dealing with depression and extreme poverty should be a priority.”
- “The easiest way to increase happiness is to control your use of time. Can you find more time to do the things you enjoy doing?”
- “Beyond the satiation level of income, you can buy more pleasurable experiences, but you will lose some of your ability to enjoy the less expensive ones.”
Even when it is not influenced by completely irrelevant accidents such as the coin on the machine, the score that you quickly assign to your life is determined by a small sample of highly available ideas, not by a careful weighting of the domains of your life.
One recipe for a dissatisfied adulthood is setting goals that are especially difficult to attain.
In part because of these findings I have changed my mind about the definition of well-being. The goals that people set for themselves are so important to what they do and how they feel about it that an exclusive focus on experienced well-being is not tenable. We cannot hold a concept of well-being that ignores what people want.
Nothing in life is as important as you think it is when you are thinking about it.
Here again, when you tried to rate how much you enjoyed your car, you actually answered a much narrower question: “How much pleasure do you get from your car when you think about it?” The substitution caused you to ignore the fact that you rarely think about your car, a form of duration neglect.
Speaking of Thinking About Life “She thought that buying a fancy car would make her happier, but it turned out to be an error of affective forecasting.” “His car broke down on the way to work this morning and he’s in a foul mood. This is not a good day to ask him about his job satisfaction!” “She looks quite cheerful most of the time, but when she is asked she says she is very unhappy. The question must make her think of her recent divorce.” “Buying a larger house may not make us happier in the long term. We could be suffering from a focusing illusion.” “He has chosen to split his time between two cities. Probably a serious case of miswanting.”