Listening to Kahneman

Regular readers of the shared articles on my coffee table (that would be one of you, including myself) would notice that I often find myself fascinated by articles on cognitive biases, particularly from this collaborative site, Overcoming Bias. I did not read behavioural economics back in university, preferring instead to focus on game theory and econometrics (perhaps I should have taken an extra paper… in fact, I have a strong feeling that I should have…), so I am relatively new to the subject.

Basically, cognitive bias is a broad term for all distortions in the human mind that are hard to avoid and that lead to a perception, judgement, or reliability that deviates systematically, involuntarily, and rather distinct from the “reality”. Decisions made influenced by cognitive biases are not easily reconcilable with rationality, and thus could potentially lead to sub-optimal outcomes. Some familiar examples include overconfidence, gambler’s fallacy and self-deception.

In this post, I will try to introduce, informally, three relevant biases.

1. Paternalism

Not sure if it has been formally articulated, but paternalism is a form of bias. It relates to policy that is intended to benefit some people by limiting their choices, that is, the interference of a state or an individual with another person, against their will, and justified by a claim that the person interfered with will be better off or protected from harm, like a parent who stops a kid from playing in the street.

Basically, a paternalistic individual believes that he/she has superior rationality and reasoning, and that others are helpless in doing for what is good for them, and thus decisions are best left not to these helpless people.

For example, when one decides that a movie should be banned without really watching the show at all, because he knows better. Or when one decides that the populace is too stupid to understand matter pertaining to planning of transportation infrastructure.

2. Hyperbolic Discounting

The second interesting bias refers to the empirical finding that people generally prefer smaller, sooner payoffs to larger, later payoffs when the smaller payoffs would be imminent; when the same payoffs are distant in time, people tend to prefer the larger, even though the time lag from the smaller to the larger would be the same as before.

For example, when given a choice of getting RM 100 on say, September 1^st, 2009 or RM200 3 years later (September 1^st, 2012), you choose the latter option - that is, equivalent interest rate of about 26% per year (!). But when given a choice of RM 100 right now, and RM 200 three years from now - essentially the same scenario but with different time-frame - you choose to get RM 100 now.

Or similarly, when you decide to formulate a long term policy which is intended to ultimately enrich a portion of the population and lead to more equality amongst all in the long run, and that the potential long term gain from this policy should outweigh all the competing short term gains. But when the policy goes from formulation to implementation, most affected rather choose quick gains rather than potentially larger long term benefits.

3. Confirmation Bias

Sometimes known as myside bias, confirmation bias is a tendency to search for or interpret information in a way that confirms one's preconceptions and to avoid "counter-attitudinal" new information. It refers to the tendency for people to extend critical scrutiny to information which contradicts their prior beliefs and uncritically accept information that is congruent with their prior beliefs. An important consequence of the bias is that many incorrect beliefs are slow to change and often become stronger even when evidence is presented which should weaken the belief. Generally, such irrational belief persistence results from according too much weight to evidence that accords with one's belief, and too little weight to evidence that does not.

For example, after making the decision of buying a Toyota Vios, one tends to be especially receptive towards advertisements, positive reviews and comments for Toyota Vios, and choose not to heed reliable information that the Honda City is actually a better car overall.

Or when one choose not to believe that a policy has done little to achieve its objectives after many years, and decides – against evidence and well-accepted scholarly and empirical understanding that it would not work, to extend the policy forever. Or the conviction that one has for the future of an automotive company he helped create, despite blatant signs that it is a failure.

It is crucial to acknowledge that cognitive biases exist and to appreciate that they could lead to sub-optimal decisions and outcomes in the daily happenings of our lives, from simple trivial matters to over-arching policy decisions that have repercussions lasting multiple decades and affecting welfare of the entire nation.

Have you noticed your cognitive bias today?

Elanor