Predictably Irrational

Humans rarely choose things in absolute terms. We don’t have an internal value meter that tells us how much things are worth. Rather, we focus on the relative advantage of one thing over another, and estimate value accordingly.

Most people don’t know what they want unless they see it in context.

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.

This is the problem of relativity—we look at our decisions in a relative way and compare them locally to the available alternative. We compare the relative advantage of the cheap pen with the expensive one, and this contrast makes it obvious to us that we should spend the extra time to save the $7 At the same time, the relative advantage of the cheaper suit is very small, so we spend the extra $7.

That’s a lesson we can all learn: the more we have, the more we want. And the only cure is to break the cycle of relativity.

“Tom had discovered a great law of human action, namely, that in order to make a man covet a thing, it is only necessary to make the thing difficult to attain.”

The basic idea of arbitrary coherence is this: although initial prices (such as the price of Assad’s pearls) are “arbitrary,” once those prices are established in our minds they will shape not only present prices but also future prices (this makes them “coherent”). So,

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).

Once the first decision had been made, other decisions followed in what seemed to be a logical and coherent manner.

We should also pay particular attention to the first decision we make in what is going to be a long stream of decisions (about clothing, food, etc.). When we face such a decision, it might seem to us that this is just one decision, without large consequences; but in fact the power of the first decision can have such a long-lasting effect that it will percolate into our future decisions for years to come. Given this effect, the first decision is crucial, and we should give it an appropriate amount of attention.

Socrates said that the unexamined life is not worth living.

The sensitivity we show to price changes might in fact be largely a result of our memory for the prices we have paid in the past and our desire for coherence with our past decisions—not at all a reflection of our true preferences or our level of demand.

It’s no secret that getting something free feels very good. Zero is not just another price, it turns out. Zero is an emotional hot button—a source of irrational excitement.

The critical issue arises when FREE! becomes a struggle between a free item and another item—a struggle in which the presence of FREE! leads us to make a bad decision.

Most transactions have an upside and a downside, but when something is FREE! we forget the downside, FREE! gives us such an emotional charge that we perceive what is being offered as immensely more valuable than it really is. Why? I think it’s because humans are intrinsically afraid of loss. The real allure of FREE! is tied to this fear. There’s no visible possibility of loss when we choose a FREE! item (it’s free). But suppose we choose the item that’s not free. Uh-oh, now there’s a risk of having made a poor decision—the possibility of a loss. And so, given the choice, we go for what is free.

Some of the purchasers probably didn’t want the second book (and I am talking here from personal experience) but the FREE! shipping was so tempting that to get it, they were willing to pay the cost of the extra book.

When money was mentioned, the lawyers used market norms and found the offer lacking, relative to their market salary. When no money was mentioned they used social norms and were willing to volunteer their time.

Once market norms enter our considerations, the social norms depart.

Even small gifts keep us in the social exchange world and away from market norms.

People are willing to work free, and they are willing to work for a reasonable wage; but offer them just a small payment and they will walk away.

Offering people a gift, even a small one, is sufficient to get them to help; but mention what the gift cost you, and you will see the back of them faster than you can say market norms.

Just thinking about money makes us behave as most economists believe we behave—and less like the social animals we are in our daily lives. This leads me to a final thought: when you’re in a restaurant with a date, for heaven’s sake don’t mention the price of the selections.

SO WE LIVE in two worlds: one characterized by social exchanges and the other characterized by market exchanges. And we apply different norms to these two kinds of relationships. Moreover, introducing market norms into social exchanges, as we have seen, violates the social norms and hurts the relationships. Once this type of mistake has been committed, recovering a social relationship is difficult.

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.

Open-source software shows the potential of social norms. In the case of Linux and other collaborative projects, you can post a problem about a bug on one of the bulletin boards and see how fast someone, or often many people, will react to your request and fix the software—using their own leisure time.

There are social rewards that strongly motivate behavior—and one of the least used in corporate life is the encouragement of social rewards and reputation.

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.

To make informed decisions we need to somehow experience and understand the emotional state we will be in at the other side of the experience. Learning how to bridge this gap is essential to making some of the important decisions of our lives.

Why? Because without precommitments, we keep on falling for temptation.

The ownership of something increases its value in the owner’s eyes.

The first quirk, as we saw in the case of the basketball tickets, is that we fall in love with what we already have. Suppose you decide to sell your old VW bus. What do you start doing? Even before you’ve put a FOR SALE sign in the window, you begin to recall trips you took.

The second quirk is that we focus on what we may lose, rather than what we may gain. When we price our beloved VW, therefore, we think more about what we will lose (the use of the bus) than what we will gain (money to buy something else).

The third quirk is that we assume other people will see the transaction from the same perspective as we do. We somehow expect the buyer of our VW to share our feelings, emotions, and memories.

OWNERSHIP ALSO HAS what I’d call “peculiarities.” For one, the more work you put into something, the more ownership you begin to feel for it.

In fact, I can say with a fair amount of certainty that pride of ownership is inversely proportional to the ease with which one assembles the furniture; wires the high-density television to the surround-sound system; installs software; or gets the baby into the bath, dried, powdered, diapered, and tucked away in the crib.

Another peculiarity is that we can begin to feel ownership even before we own something. Think about the last time you entered an online auction. Suppose you make your first bid on Monday morning, for a wristwatch, and at this point you are the highest bidder. That night you log on, and you’re still the top dog. Ditto for the next night. You start thinking about that elegant watch. You imagine it on your wrist; you imagine the compliments you’ll get. And then you go online again one hour before the end of the auction. Some dog has topped your bid! Someone else will take your watch! So you increase your bid beyond what you had originally planned.

There’s another way that we can get drawn into ownership. Often, companies will have “trial” promotions.

Another example of the same hook is the “30-day money-back guarantee.” If we are not sure whether or not we should get a new sofa, the guarantee of being able to change our mind later may push us over the hump so that we end up getting it.

OWNERSHIP IS NOT limited to material things. It can also apply to points of view. Once we take ownership of an idea—whether it’s about politics or sports—what do we do? We love it perhaps more than we should. We prize it more than it is worth. And most frequently, we have trouble letting go of it because we can’t stand the idea of its loss. What are we left with then? An ideology—rigid and unyielding.

But the bigger doors (or those that seem bigger) are harder to close. Doors that just might lead to a new career or to a better job might be hard to close. Doors that are tied to our dreams are also hard to close. So are relationships with certain people—even if they seem to be going nowhere. We have an irrational compulsion to keep doors open. It’s just the way we’re wired. But that doesn’t mean we shouldn’t try to close them.

We ought to shut them because they draw energy and commitment away from the doors that should be left open—and because they drive us crazy.

Choosing between two things that are similarly attractive is one of the most difficult decisions we can make. This is a situation not just of keeping options open for too long, but of being indecisive to the point of paying for our indecision in the end.

Failed to do when focusing on the similarities and minor differences between two things was to take into account the consequences of not deciding.

The moral, as you might expect, is that if you tell people up front that something might be distasteful, the odds are good that they will end up agreeing with you—not because their experience tells them so but because of their expectations.

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 bad.

Expectations can influence nearly every aspect of our life.

Don’t underestimate the power of presentation. There’s a reason that learning to present food artfully on the plate is as important in culinary school as learning to grill and fry.

If you want to enhance the experience of your guests, invest in a nice set of wineglasses.

If you’re really serious about your wine, you may want to go all out and purchase the glasses that are specific to burgundies, chardonnays, champagne, etc. Each type of glass is supposed to provide the appropriate environment, which should bring out the best in these wines (even though controlled studies find that the shape of the glass makes no difference at all in an objective blind taste test, that doesn’t stop people from perceiving a significant difference when they are handed the “correct glass”).

Expectations, of course, are not limited to food. When you invite people to a movie, you can increase their enjoyment by mentioning that it got great reviews. This is also essential for building the reputation of a brand or product. That’s what marketing is all about—providing information that will heighten someone’s anticipated and real pleasure.

Research on stereotypes shows not only that we react differently when we have a stereotype of a certain group of people, but also that stereotyped people themselves react differently when they are aware of the label that they are forced to wear (in psychological parlance, they are “primed” with this label).

So we learned that people cheat when they have a chance to do so, but they don’t cheat as much as they could. Moreover, once they begin thinking about honesty—whether by recalling the Ten Commandments or by signing a simple statement—they stop cheating completely. In other words, when we are removed from any benchmarks of ethical thought, we tend to stray into dishonesty. But if we are reminded of morality at the moment we are tempted, then we are much more likely to be honest.

When we deal with money, we are primed to think about our actions as if we had just signed an honor code.

Our irrational behaviors are neither random nor senseless—they are systematic and predictable. We all make the same types of mistakes over and over, because of the basic wiring of our brains.

Although irrationality is commonplace, it does not necessarily mean that we are helpless. Once we understand when and where we may make erroneous decisions, we can try to be more vigilant, force ourselves to think differently about these decisions, or use technology to overcome our inherent shortcomings. This is also where businesses and policy makers could revise their thinking and consider how to design their policies and products so as to provide free lunches.