Saturday, January 24, 2009

Dan Ariely on Behavioral Economics

The traditional view of human rationality known as unbounded rationality asserts that we possess the capacity to think and behave in a manner that is, after weighing the costs and benefits associated with a decision, concordent with the lowest cost-benefit differential [1]. Thus, when faced with decisions involving our finances, choices between products or brands, and even how to comport ourselves in a variety of social settings, we should be capable of thinking through our options and deciding upon the 'optimal' outcome. It's often presumed that people who consistently make poor decisions or are incapable of orbiting this rational way of thinking are either not thinking about the choice or the problem correctly, or they are allowing unimportant information to bleed into the decision making process. This view suggests that some people are good at being rational, while others are not. However, this type of rationality is not what has been observed in the fields of Judgment and Decision Making Psychology and Behavioral Economics. What has been observed is that humans generally use a variety of short cuts and intuitive rules for making decisions [2, 3, 4, 5]. In many scenarios, especially the artificial sort used for a variety of psychological research studies, these shortcuts lead to 'sub-optimal' decision making. It's been argued that these short cuts, officially referred to as 'Heuristics and Biases', may not be rational in our modern setting, but they do match up well with the environment in which humans evolved [2, 3].

While working on my MS in Experimental Psychology, my area of research specialization was Judgment and Decision Making [JDM]. During that time, I became familiar with the research of Dan Ariely, a behavioral economist at MIT who has recently authored the book Predictably Irrational. I have not yet had the opportunity to read Predictably Irrational, though I intend to do so. I came across this video (approximately 20 min.) recently of Ariely presenting some of his research findings. In the video, he demonstrates some classic examples of sub-optimal heuristic-based decision making. Implied in this discussion is that in order to improve our personal and collective decision making in an attempt to achieve more optimal results, we must engineer our environment and design policies that fit well with our heuristic based approach to decision making and cognition. Interestingly, a few high profile politicians, including incoming US president Barack Obama and the UK's conservative Tories, have recently enlisted the aid of Richard Thaler, a behavioral economist from the University of Chicago (author of Nudge: Improving Decisions about Health, Wealth, and Happiness), as a consultant to assist them in developing and presenting policies that aspire to the goal of working within the framework of heuristic rationality. I think the video is a great introduction to the subject of behavioral economics and it's quite interesting to watch.



[1] Gigerenzer, G. & Todd, P. M (1999). Fast and Frugal Heuristics: The Adaptive Toolbox. In G. Gigerenzer, P. M. Todd & the ABC Research Group, Simple Heuristics That Make Us Smart, 3-34. New York: Oxford University Press.
[2] Gigerenzer, G., P. M. Todd, & The ABC Research Group, eds. (1999). Simple Heuristics That Make Us Smart. New York: Oxford University Press.
[3] Gigerenzer, G. (2007). Gut Feelings: The Intelligence of the Unconscious. New York: Viking.
[4] Kahneman, D., P. Slovic, & A. Tversky, eds. (1982) Judgments Under Uncertainty: Heuristics and Biases. Cambridge UK: Cambridge University Press.
[5] Kahneman, D. & A. Tversky eds. (2000). Choices, Values, and Frames. Cambridge UK: Cambridge University Press.

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