“Wouldn’t economics make a lot more sense if it were based on how people actually behave, instead of how they should behave?”
Predictably Irrational Short Summary
Predictably Irrational by Dan Ariely explores the hidden forces that shape our decisions. Ariely proves that humans are not only irrational but predictably irrational. In other words: our irrationality happens again and again. A great book to improve your decision making so you can change the way you live for the better.
The Truth About Relativity
We rarely choose things in absolute terms. Instead, we focus on the relative advantage of one thing over another, and estimate value accordingly.
We are only able to make judgments by comparing the prices and offers of one thing with that of others.
“Most people don’t know what they want unless they see it in context.”
The Decoy Effect: when a third option is presented, we tend to change our preferences. This strategy is used by marketers to influence customers’ purchase decisions
“We not only tend to compare things with one another but also tend to focus on comparing things that are easily comparable—and avoid comparing things that cannot be compared easily.”
Choosing between an all-expenses paid trip to either Paris or Rome is hard in itself. But if a third option of Rome without breakfast is also included, many people will go for Rome with breakfast.
Because choosing Rome with breakfast over Rome without is an easier comparison compared to the choice between Paris and Rome.
Change your focus from narrow to broad. This means being mindful of how relativity affects your decision making.
The Fallacy of Demand and Supply
Imprinting: making decisions based on our first impressions and decisions
Anchor price: the first price we get and that determines our subsequent price considerations
Arbitrary Coherence: even things that shouldn’t factor into our price considerations (like product placement) may influence our decisions well into the future
“Initial prices are largely “arbitrary” and can be influenced by responses to random questions; but once those prices are established in our minds, they shape not only what we are willing to pay for an item, but also how much we are willing to pay for related products (this makes them coherent).”
To become more rational:
- We all have repeated behaviours. Ask yourself what pleasure you’re getting from the things that you do and if they are worth it? Unexamined repeated behaviours can be a source of irrational decisions
- Create new anchors. New experiences can help create new anchors and change old ways of making decisions
- First decisions matter more than people care to admit as they determine our subsequent behaviours. Therefore examine your first decisions carefully
The True Cost of Zero
The price of zero causes people to react irrationally.
When the price is set to free, people take things they don’t need and forego better deals because they think ‘free’ comes at no cost.
Free is alluring because people are afraid of loss even when the free item leads to increased opportunity costs.
“When we pay—regardless of the amount of money—we feel some psychological pain, which social scientists call the “pain of paying.” This is the unpleasantness associated with giving up our hard-earned cash, regardless of the circumstances.”
When offered a choice between a free $10 Amazon gift card and $20 gift certificate for $7, approximately 70% of people choose the free $10 Amazon gift card even though $20 gift card for $7 is the better deal.
To become more rational:
- Always ask yourself if the free item will lead to additional costs in the future. If yes, you are acting irrationally
- Everything has an opportunity cost. Before being influenced by free things, consider what you are foregoing
- Free things also impact subsequent behaviour. For example, free offerings on a buffet might cause you to eat more than is good for you
The Cost of Social Norms
Society functions on the basis of social and market norms. Mixing the two does not work well.
When people work for a cause, they work harder. For important social causes like helping the needy, it is important to emphasize the positive nature of the work over any form of compensation for the said work.
But when money is introduced as part of the equation, they think in terms of compensation and limit their effort to the amount of time they have and the money they seek to earn.
“When a social norm collides with a market norm, the social norm goes away for a long time. In other words, social relationships are not easy to reestablish. Once the bloom is off the rose—once a social norm is trumped by a market norm—it will rarely return.”
This means that paying people for favors will backfire because market and social norms rarely mix.
Give gifts in place of money. Gifts convey a sense of comradeship while money implies compensation and hence individualism.
“Money, as it turns out, is very often the most expensive way to motivate people. Social norms are not only cheaper, but often more effective as well.”
The Power of a Free Cookie
Free can make us less selfish.
When people are paying for a good or service, they rarely think about the welfare of others. But when the service or good is offered for free, they act selflessly.
“…when price is not a part of the exchange, we become less selfish maximizers and start caring more about the welfare of others.”
Not everything has a price. When you put a price on good behavior you can make people act in ways that violate social norms.
Putting a price on pollution means that companies can be more willing to disregard the social norm of caring for the environment and instead see pollution as a business cost like any other.
The Problem of Procrastination
Immediate self-gratification is the reason why people procrastinate.
By seeking instant self-gratification, they forego long term benefits. For example, saving for retirement and learning new things.
- Set strict deadlines. They motivate you to take action now
- Set schedules and reminders. They tell you and your customers what to expect and at what time.
- Create email filters. To break email and social media addiction, turn off the automatic email checking feature and create filters that rank emails based on their importance
- Associate negative outcomes with positive experiences. If there is something you do and are likely to procrastinate on, associate the activity with a rewarding experience
The High Price of Ownership
Endowment Effect: people tend to value the things that they own more than they are worth to them or to others
Quirks in Human behavior:
- We fall in love with what we already have
- Focus on what we may lose rather than what we may gain
- Make the assumption that other people will make the same value judgments as we do
- Feel ownership even before we buy something
How to reduce the power of the endowment effect:
- Think about the alternatives. Ask yourself: what else can I get in place of the things that I have?
- Detach yourself from things you are buying. Think as a non-owner and your decision will be more in line with your expectations
- When selling, consider the perspective of the other party. Other people may not share the same feelings of attachments that you have over the product that you are trying to sell
Keeping Doors Open
The fear of losing makes people keep their choices open even though in the long-run this works against them.
People are afraid of ending relationships or choosing a career path because they will leave something behind. This costs them dearly in terms of time lost and money.
By concentrating on keeping unimportant choices (doors) open, we also fail to see the doors that are closing never to open again.
They include childhoods, learning opportunities, time with family, and career paths. All because we don’t want to experience the loss of things that we don’t even value anymore.
Taking too long to decide is a loss in itself. Think of the time lost and what you could with it.
Our expectations about things influences our views of events and how we react to them. People view things from an already existing lens.
“When we believe beforehand that something will be good, therefore, it generally will be good—and when we think it will be bad, it will be bad.”
Expectations also shape the stereotypes we have of others.
The Power of Price
The pricing of something affects our own expectations about the service or product.
Patients report greater pain relief if administered drugs that are pricey.
Placebo: the experience of relief that patients get after a ‘fake’ treatment. Placebo works because of the power of suggestion and because of belief
“You pop a pill and you feel better. And if your doctor is a highly acclaimed specialist, or your prescription is for a new wonder drug of some kind you feel better.”
By understanding how price works to influence our decisions, we can avoid expensive purchases.
When things are sold cheap or are discounted, it doesn’t mean that their quality has gone down too.
The Cycle of Distrust
In general, people are distrustful of others and of companies.
And this is a problem for the economy because for people to transact, they need to trust each other and their institutions.
The Tragedy of the Commons: a situation where individuals seek to maximize their use of a common resource without considering the rate of depletion or the sustainability of the resource
Companies that use resources like oil without regard to environmental consequences erode public trust in the same way that the tragedy of common does.
To rebuild public trust, companies can:
- Put the safety of consumers first and acknowledge mistakes
- Proactively address customers complaints
- Companies can make themselves transparent and vulnerable
The Context of Our Character
Dealing in cash makes us more honest.
“When we look at the world around us, much of the dishonesty we see involves cheating that is one step removed from cash.”
It is easier to cheat where non-monetary objects are involved because we are adept at rationalizing our petty dishonesty.
Examples of widespread cheating include exaggerated insurance claims, returning worn items of clothing (wardrobing), exaggerated businesses expenses, and undeclared earnings.
People can act more honestly around non-monetary items if they are labeled with a price and if they realize that we are likely to act in dishonest ways when cheating is one step away from cash.