Nationalization or privatization?

(featured image credit: Krahsman)

Do private and public organizations (and their employees) make inherently different trade-offs?

Todd Dewey is on his way from Winnipeg, Canada to North Spirit Lake, 500 km to the north east. He is one of the Ice Road Truckers, famous from the eponymous TV show. They are rugged guys (of both genders!) trying to make as much money as possible during the coldest months in Northern North America, by taking vital supplies to remote communities over the winter roads, which often consist of no more than a layer of ice floating on a lake (or even the ocean).

Todd is driving on a bumpy track that is only passable because there is a lot of packed snow on it, behind his truck a trailer with 30 tons of building materials. But his truck is losing power and it struggles to maintain speed on the steep slopes.

A cool trade-off

Behind him Darrell Ward, also heading for North Spirit Lake, is catching up. Eventually Todd is forced to stop, and Darrell pulls over too. He has got a much lighter load, just a bunch of huge empty plastic tanks. It would make sense for the drivers to swap their loads, but the two drivers work for different transport companies. Normally that might not be a problem, but Darrell, who used to be a colleague of Todd’s, had a falling out with Todd’s boss not so long ago. He left in anger and set up a competing business, so he’s now very much not just a competitor, but a rival.


Things are tough on the winter roads (image: Natalia_Kollegova)

He shares his thought process with the camera. On the one hand, he’s there to make money by delivering loads on time, not to worry about the problems of a competing company. On the other hand, you don’t leave a fellow driver behind to fend for themselves, a hundred miles from civilization, in temperatures of 20 below freezing. And of course you have a duty to bring supplies to people to whom you are literally a lifeline. So without much ado, Darrell makes the trade-off, and swaps loads with Todd. A few hours later they drive into North Spirit Lake in convoy, and make their deliveries as planned.

On 15 January, Carillion, a huge global facilities management and construction company was forced into liquidation, with debts totalling more than £1.5 billion ($2.1B, €1.7B). The implications are significant, not just for the 43,000 employees (of whom nearly half in the UK), but for the many subcontractors with outstanding invoices that are unlikely ever to get paid, and for the many customers and clients, whose services or building projects are now in jeopardy.

Flipchart Rick has written a comprehensive post about the background of Carillion’s (longstanding) problems. Some are inherent in the low margin, high-volume nature of the business, vulnerable to unexpected mishaps and general uncertainty; others are to do with the mismanagement by company bosses and by the government as the client. One recurring topic in the aftermath of Carillion’s collapse centres on outsourcing of public services and the use of Public Private Partnerships for capital projects. Are these a good way of supplying services to the citizen?

Uncool trade-offs?

The answer to this question lies in the potentially very different ways trade-offs are made in private companies and in public organizations. As Flipchart Rick’s blog illustrates, there is a strong suspicion among the British general public towards big business (and it is generally big business that is involved in the private provision of public services). The reason behind this is the assumption that the profit motive of private companies affects the trade-offs that are being made, in favour of the shareholders, and to the detriment of the employees, the taxpayer and the citizens.


Suspicious minds (via Flip Chart Fairy Tales)

The trade-offs people make follow from an intricate combination of intrinsic and extrinsic motivation. Say you want me to come and clean your house. I am a friendly kind of guy, but there are other things I’d rather do. My intrinsic motivation is insufficient to get me to spring into action, so you’d need to add some extrinsic incentive: pay me some money. But once I am busy cleaning, my intrinsic motivation will influence the eventual result. If I am inherently driven by doing a good job, or by making you satisfied with my work, I will scrub with great diligence. If I am of a less meticulous disposition and all I am concerned about is getting paid my wage, my performance may leave something to be desired. But I should of course bear in mind that if my work is too sloppy, you could withhold some of my money, or indeed sack me (or not hire me again next time).

My profit motive gives you at least some influence over how well I work, or indeed over how well your house is cleaned. Perhaps a really good cleaner, someone who is intrinsically motivated, costs a bit more, and so if you’re willing to fork out extra, you can make sure your house is really spotless. If I am a slacker with little intrinsic motivation, you can get someone else. But my extrinsic profit motive can also work against you: if I try to boost my margin by using inferior cleaning materials, that might leave you with a smudgy rather than shiny house.

Motives and trade-offs

This play between intrinsic and extrinsic motivations also applies within larger organizations, up and down the chain of command – including those delivering public services, and regardless whether they are in private or public ownership. Are the former, providing outsourced services, more likely to make trade-offs that are detrimental to the citizen, whether as a service user or a taxpayer? They can certainly boost profit margins by skimping on materials and labour in a way that reduces the value to the user. And unlike a cleaner you engage yourself, citizens don’t have a simple, straightforward way of sacking the firm that collects the rubbish, or the cleaners and caterers in the municipal swimming pool if they perform poorly.

Does that mean public ownership is guaranteed to deliver better trade-offs? The profit motive is absent, so there is no risk of abuse. But it also means there is no extrinsic motivation, and so citizens rely entirely on the intrinsic motivation of the supplier. If that is lacking and service quality is lousy, you are just as powerless to obtain better rubbish collection, or a better café or better cleaning at the swimming baths as in the case of greedy outsourced private sector suppliers. Arguably, poor outsourcing  can be the consequence of  the lack of intrinsic motivation on the part of the administration: if those who purchase or oversee the delivery of services to ensure they are adequate and provide value for money don’t do their job properly, it’s the tax payer and the citizen that suffers.


Collective ownership, ahoy! (source: Yougov)

The British public is firmly in favour of public ownership of many sectors, and a majority would want to see buses, utilities and railways renationalized, as a YouGov poll in May 2017 found. A Populus survey in August 2017 found even higher numbers desiring national ownership (Trains 76%, Water 83%, Electricity and Gas 77%, Banks 50%).

But does it matter all that much whether someone is employed by the state or the local district, or by a private firm? As Adam Smith wrote in his Inquiry into the Nature and Causes of the Wealth of Nations  (Book 1, chapter 2), “It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest.” That ‘own interest’ is the combination of intrinsic and extrinsic motives for people to perform well in the eyes of those whom they serve.

Darrell Ward was motivated by profit, but that didn’t stop him putting helping out his fellow Ice Road Trucker above securing his income. I once had the occasion of being served superbly by a civil servant in the Belgian Home Affairs Ministry: she was not motivated by profit, and still managed to get me a new passport to replace a faulty one in less than 24 hours.

Ideology is a distraction in the debate on public service provision. What truly matters is the right balance of intrinsic and extrinsic motivation, and that is just as important under private as under public ownership.

Posted in Behavioural economics, Economics, Management, politics | Tagged , | Leave a comment

Dissonance in human nature

How do we resolve the inevitable perceived contradictions in the traits of the people around us?

In The 7 Habits of Highly Effective People, Stephen Covey relates how he was riding on the New York subway one Sunday morning. The carriage was peaceful, with people quietly reading their papers, or just resting. Then a man and his children got on, and the scene changed completely. The children were loud, throwing things, grabbing at people’s papers and so on. Their dad, sitting next to Covey with his eyes closed, seemed oblivious to what his offspring were up to.

What kind of insensitive, inadequate parent would let his children run wild like that without even attempting to take responsibility? So eventually Covey turned to him, and asked him whether he might at least try to control them a little more. The man appeared to come out of a state of unconsciousness, and said softly, “Oh, you’re right. I guess I should do something about it. We just came from the hospital where their mother died about an hour ago. I don’t know what to think, and I guess they don’t know how to handle it either.”

This is a great example of cognitive dissonance. We start off with a certain belief, and are then confronted with a completely different picture that is at odds with it. That dissonance can be pretty uncomfortable.

It’s hard to change your mind

One way of dealing with this kind of thing is to change our mind. We let go of the original belief and adopt a new one – the dad is not an irresponsible parent, but someone who deserves our understanding and sympathy.


Two pure Ecuadorians. But who is the good guy, and who the bad guy? (Photo: Wikimedia)

But that is the exception rather than the rule. Most of the time, once we have categorized a person we don’t easily move them into a different category. That is particularly the case when we have a strong positive or negative opinion of a public figure, someone we don’t know personally, but whose character and nature we nevertheless believe to know very well. That belief is like a valuable investment to us, which we don’t give up just like that.

The writing of this article was triggered by the mention of Julian Assange, the founder of WikiLeaks, in the news last week (when it was reported that he has obtained Ecuadorian citizenship). Mr Assange is a hero in the eyes of his supporters, for publicizing secret material that compromises the great and the good, and that lays bare some of the more shady dealings that are going on unseen to the public eye. But he has also been accused of sexual assault and ‘lesser degree rape’. If someone is your hero, but allegedly also a sexual predator, does that make him a good guy or bad guy? The cognitive dissonance is evident.

Some supporters the Republican party in the US must be experiencing something similar. They would probably not hesitate to rebuke certain aspects of the president’s behaviour if it was displayed by anyone else (especially if it were a Democratic politician). But as they have nailed their colours to his mast so to speak, such critical feelings would cause unbearable cognitive dissonance.

The opposite happens too. We expect members of another tribe (certainly if they are really opponents like in politics) to say and do things we oppose. When they say or do something that, if it was said by someone on our side, a good guy, we would applaud, that is incongruent with our belief. We experience cognitive dissonance.

If we feel unable to reclassify a person on the basis of new information – and it is indeed we, for this phenomenon is by no means limited to supporters of Mr Assange or Mr Trump – we resort to other tactics. The easiest one is simply ignoring the contrary information.  Confirmation bias  is very helpful in this respect: we only look at the behaviour of the person that neatly fits with our prior perception.

If we cannot escape the facts, then another possibility is motivated reasoning. We develop an explanation for the incongruence that preserves our image of the person in question. We work back from the immutable belief that he or she is a good guy (or a bad guy) and come up with alternative reasons for the facts. Assange is being framed by the FBI, Trump is not doing or saying anything that an ordinary bloke in the pub wouldn’t do or say, so hey, what’s the big deal? And if a bad guy says something that is actually quite good, of course they have ulterior motives or are being hypocrites.

No more, Mr Nice Guy

The problem with this is the strong heuristic that good guys are basically right, and bad guys are basically wrong. This finds its origin in the halo effect, a cognitive bias that generalizes positive traits. (The similar generalization of negative traits is called the horn effect.) Thinking in that way can cloud our judgement and make us lose sight of the facts.


Taleb, Tetlock, Thaler – who’s got the halo, and who the horns? (Images via Twitter)

Even in the world of academia, which you might have thought is dominated by truth and facts, it can be hard to pretend there is no tension between two apparently incongruent sides of a person. Should the behaviour of an intellectual that, one might say, lacks in civility, affect how much credence we give to their argument? Or should we accept that if you are Mr Right Guy, you don’t need to be Mr Nice Guy? A recent twitter spat involving Nassim Taleb, author of among others Fooled by Randomness, Philip Tetlock, author of Superforecasting, and Richard Thaler, the 2017 Economics Nobel laureate, provides the perfect backdrop for pondering those questions.


We cannot eliminate cognitive dissonance. We are continually confronted with information that challenges our beliefs. But what we can do is try not to oversimplify our judgement of people into good and bad, like in the old cowboy movies (where the colour of the hats provided a handy hint).

What if we acknowledged that people are a bit more nuanced? Surely we can simultaneously find someone a source of great wisdom and think they behave like an asshole. It is not because we appreciate someone taking action to implement policies we are in favour of, that we cannot denounce them for inappropriate language or behaviour. It is not because we disagree with someone’s politics that everything they say is nonsense or suspect. Heroes and villains are fine in stories and movies, but let’s not reduce our verdict on real people to such simplistic terms.

Human nature is, by nature, dissonant.

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The immaterial economy

(featured image credit: torstensimon)

The peculiarly human nature of economics

On Wednesday 10 January Philip Hammond, the UK’s chancellor of the exchequer, and his cabinet colleague David Davis, the secretary for Exiting the EU, flew to Germany. The aim of their trip was to present Britain’s view of what a ‘strong and close’ post-Brexit relationship with the EU, and in particular with Germany, should look like. Earlier the same day, an article written jointly by both gentlemen was published in one of the main German dailies, the Frankfurter Allgemeine Zeitung. In it they argued that it would make no sense for either Germany or Britain to put in place “unnecessary barriers” that would damage businesses and economic growth.

Sounds like a no-brainer – why would anyone erect unnecessary barriers? Why would there need to be impediments to trade, compared with the present seamless situation that the UK enjoys as a member state of the EU (and by implication of the Single Market and the Customs Union)?  Why impose tariffs, or non-tariff barriers (such as paperwork and border checks) that would depress trade, and hence cause a material economic loss?

Living in an immaterial world


Does this look like an unnecessary barrier? (photo: distel2610)

Material losses  are not unusual though – in fact they are incredibly common. Every time we buy something, our wallet ends up lighter, our bank account gets depleted, or we increase our credit card debt. But that financial loss can be compensated by a corresponding material gain. When we buy a washing machine we gain time through its efficiency, as it can clean our clothes much more quickly than we could, doing it all by hand.  When we buy home insurance, the fact that we can claim on our insurance when our house goes up in smoke is a clear material benefit too: we don’t gain anything directly, but we prevent economic loss.

But not everything transaction has a purely material balance. When we purchase curtains for the bedroom, lest the neighbours see us in dramatic states of undress, there is not really any demonstrable tangible benefit. So why do we spend money on them? We make the expense to satisfy a spiritual need – not in any religious sense, but in a philosophical sense. We don’t want our neighbours to see us in the nude. It would make us feel embarrassed or ashamed – and the avoidance of this feeling is worth the cost of the curtains.

Much of our economic life is conditioned by such immaterial considerations. A lot of the stuff we buy has marginal or no direct material benefit. We could perfectly function with a small fraction of the clothes in our wardrobe, with cheap food, without a television and so on. They all provide us with utility that is immaterial.

Some of us prefer more expensive fairtrade goods, even though they do not provide any superior material value. Some prefer to buy local, or national – again, with at best highly debatable concrete benefit. Even choices that don’t directly involve money can be made based on immaterial considerations: maybe we frequent a newsagent that is a bit further away because the nearby one is a grumpy git.

It is not really different in Brexitland. The EU-27 want to preserve the integrity of their internal rules, and for example not compromise on the four freedoms of movement: capital, goods, services and people. It is clear that, if the eventual deal between the UK and the EU-27 reduces these freedoms, there will be an economic cost. But they are prepared to bear that cost, in order to preserve what is essentially an immaterial value.

Is that mystifying? Not really, or at least no more mystifying than any other trade of material benefit for some immaterial utility. And certainly no more mystifying than the UK’s decision to leave the EU (and its subsequent intention to leave the Single Market, the Customs Union and the jurisdiction of the European Court of Justice). The motivation was ostensibly “to take back control”. Sure, in theory there is a material upside of around £8.5B net every year, but if trade is hindered by a restriction of the freedoms of movement, the likely consequential cost are likely to be considerably higher. This cost must therefore necessarily be offset by the immaterial benefits of sovereignty: no longer being subject to EU laws, and of being able to restrict immigration.

So both the EU-27 and the UK are incorporating immaterial elements in their decision-making. And unlike material assets, they cannot be objectively valued. The best estimate we have is based on an economic concept of questionable validity, that of revealed preference. By making the choices they make, both sides ‘reveal’ the value of the immaterial part of the equation.

Not irrational

We should not make the mistake of uttering the I-word here. All too often, poorly understood immaterial utility is misinterpreted as irrationality. Is it irrational for a child to prefer two 50p coins over a single £1 coin? Not really. The little kid quite likely derives very genuine pleasure from holding two pieces compared to just the one. Unless we know what the immaterial utility is of something people pursue (or, in case of negative utility, seek to avoid), we cannot and should not conclude they are being irrational.

But the problem with valuing immaterial benefits or costs doesn’t just affect our perception of others’ choices. When we need to make trade-offs between material and immaterial consequences of a choice, can we really work out precisely what the true price is of the immaterial element? Hardly.

Or actually, yes. Our physical requirements are to a large degree determined by our physiology. We need food, which needs to be of a certain energetic value, and of a certain composition to provide us with the essential nutrients we need. We need water to keep our anatomy working. We need protection from the elements, so we don’t die prematurely of hypothermia and so on. We share that type of need with every living organism. They are outside our control – we cannot decide to survive on fewer calories than we really need, or without water or vitamin C.


The stuff that happens behind closed curtains… (photo: Juergen_G)

But our immaterial needs? There we would appear to have a choice. Do we worry about whether the coffee and sugar in our pantry are fairtrade? We decide. Do we care whether the people living in our street were born in our own country or not? What colour their skin, or what their religion is? Up to us.

We can even decide whether or not we care that the neighbours can verify whether we have naughty bits (just like they have), and save the cost of curtains in our bedroom – although we may need to check we’re not falling foul of laws regarding exhibitionism.

The great economist John Maynard Keynes spoke of animal spirits to refer to the emotions that sometimes guide our economic decisions. But actually, it’s the immaterial aspects of our economy and economic behaviour that reflects our humanity, rather than what we share with the animals.


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Someone else’s shoes

(featured image: Three-shots)

Metaphorically wearing other people’s shoes can help us understand them better… but what if they don’t fit?

“Before you criticize someone, you should walk a mile in their shoes. That way when you criticize them, you are a mile away from them, and you have their shoes.” Undoubtedly excellent advice, and quite funny to boot, from humorist and comedian Jack Handey (in a 1991 episode of the TV show Saturday Night Live). But it is of course a riff on a much older piece of common wisdom, encouraging us to see things from someone else’s viewpoint, before we find fault. Are we any good at actually doing that?

Many of us have probably uttered the words “If I were you” more than a few times. There is a movie by that name, and a (humorous, again) podcast, and if you google the phrase you find more than 38 million hits. At first sight, this would suggest that there is plenty of putting on other people’s shoes going on. But when we say these words, what do we actually mean? Are we truly seeking to understand the other person’s perspective and situation?

We’re all better than average

Unfortunately we are prone to a few annoying cognitive quirks that may complicate matters a little. We tend to judge situations and behaviour by our own standards – this is called egocentric bias. Not only are we evidently more familiar with how the world looks through our own eyes, but we also believe that our capacity for evaluating it is superior to that of others. Our view is the best view and the only right view. This is a case of the Lake Wobegon effect (or illusory superiority), after the fictional town in the work of Garrison Keillor, where “all the women are strong, all the men are good looking, and all the children are above average.”

Egocentric bias makes us believe that others will find a TV sitcom as funny (or as awful) as we do, have the same opinion on exotic food, popular music or cars – and if they don’t, then they bloody well should. We are looking for validation of our beliefs, and the knowledge (even if only in our imagination) that others share what we think does that perfectly.

We are also prone to commit the Fundamental Attribution Error. Philosopher Cristina Bicchieri describes it as “the tendency to believe that what people do reflects who they are.” When we judge other people’s behaviour, we ascribe it to their character, rather than to external and situational factors. If someone you’ve emailed fails to respond, it’s because they’re an inconsiderate so-and-so, devoid of basic manners; but when we haven’t yet replied to someone else’s email, it’s because we are so incredibly busy. It’s just so much easier to reduce others’ actions and motives to who they are, rather than to consider all the circumstantial reasons that could be behind their behaviour.


To be successful, simply wear our shoes (photo: Alexas_Fotos)

That also leads us to believe that our successes are the result of our attitude, our hard work and our diligence in making decisions (and to overlook the role of good fortune). If others end up with problems, it’s because they don’t apply themselves in the same way, and what they should really do is take a leaf out of our book. As author Sandra Newman tweeted: “Rich people believe that, if they were poor people, they would be rich.”

So when we say “If I were you”, it’s not entirely surprising that we are probably more intent on impressing our own views and values on the other person, and giving them the benefit of our superior advice, than on trying to appreciate the full extent of their situation before we pass judgement.

Drop the shortcuts

Are we therefore doomed to misunderstand each other forever more? Not if we choose to think a bit differently when we observe others.

Rather than starting our reasoning from what we would do “if we were them”, we can take another angle. What if we thought instead, “in what circumstances would I act in the same way?” When a driver cuts you up, don’t just conclude he is an egotistical barbarian. Instead think about the kind of situation that would make you do the same – is your wife about to give birth and are you rushing to the hospital, or are you hurrying to catch the last plane? If your brother cannot make a long standing family get-together because he’s going to a colleague’s funeral, don’t feel vexed that he puts a workmate above his family. Instead, imagine the kind of person whose death would be so upsetting to you that you’d pull out of a rare family gathering to attend their funeral service.

When you judge someone’s decisions, be it your neighbour, a colleague, or a political or a business leader, try to look beyond ideology and stereotypes, and envisage in what context your decisions might not be all that different.

Mental shortcuts are an easy way to make sense of the world around us: our view is the correct view, and when others behave in a way we dislike, it is a sign of their true character. Imagining the complex reasons behind the behaviour of others is a bit harder – walking in other people’s shoes can be uncomfortable if they’re not a good fit.

But if dropping these mental shortcuts is the small price we can pay to understand our fellow human beings a bit better and respect their choices, isn’t it worth it?

Posted in Behavioural economics, Cognitive biases and fallacies | Tagged | Leave a comment

The intriguing psychology of gift economics

(featured image credit: stux/geralt/artsybee)

What does viewing the giving of gifts as economic transactions reveal about what we really value?

It’s two days before Christmas. You’re frantically looking for a gift for the one person you completely forgot. What is going through your mind? What to buy? How much to spend? Fast forward to Christmas Day… Someone hands you a parcel, enveloped in festive paper. As you begin to tear the wrapping, what goes through your mind? Will it be something you like? Will it be expensive?

Every voluntary transaction between people is, in essence, subject to a fundamental law of economics. It has to be a win-win. That is, both parties believe that what they sacrifice is more than compensated by what they gain. Gift giving and receiving is no different, but there are a few peculiarities that make it stand out. What can we learn about our complex, human quirks by dissecting it into its components?

The economic term for expressing the perceived value of a good is ‘utility’, referring to the satisfaction the consumer of that good experiences. From the viewpoint of the donor of a gift we immediately run into the first peculiarity. If giving gifts is a win-win transaction, the giver, necessarily has to experience some utility from giving something away. So the utility cannot be material. There is a material loss, which in order to result in a net gain, must be compensated by non-material utility. What could this be? For their part, for the recipient, the transaction is by definition a win: they get something for free. But is it really that simple?

Giving stuff to avoid losing

Part of the motivation of the donor could, paradoxically, be loss aversion. If you turned up at the Christmas party without gifts, you would most likely suffer an embarrassing loss of reputation. So clearly arriving empty-handed is to be avoided. But it’s improbable that just any old gift will do – an inappropriate gift might still leave your reputation dented.

Does the price you pay matter? For many gifts, the recipient will have some idea of the monetary value. So why not just give money? At least this is something that has the same kind of material utility to everyone – it can be exchanged freely for something to the preference of the recipient. But how much? From a purely economic perspective, a recipient should be happy with any amount: they end up richer than they were. But giving someone a single wrapped pound coin might, again, not serve your reputation too well. Too much, on the other hand, might cause embarrassment on both sides. So gifts of money seem not to be the panacea solution, as this study suggests.


There may not be blood in them boxes, but definitely some sweat and tears (photo: pexels)

So perhaps it’s worth acquiring something that provides the recipient of the gift with consumption utility – the value in the eye of the beholder. But that doesn’t absolve you from thinking about the monetary value: if the object itself, no matter how useful or pretty it is, is seen as too cheap or too expensive, you’re still in trouble. And if you managed to buy something valuable at a fantastic discount… should you take that into account in your gift-giving strategy? Imagine you have two brothers, and you have a book for each one. Only, the book for your elder brother was in the sale, and cost only a quarter of the price of the other one. Should you add something to his gift to make up the difference (meaning you’d need to provide a somewhat awkward explanation)? Or better keep hush, and risk that they find out? Tricky!

Emotional utility: the thought does count

Unfortunately this is not the end of your troubles: aside from monetary value and consumption utility, there is also something like emotional utility. When we give gifts, the thought and the effort we put in tends to matter too. That is the main reason why we’re often reluctant to give cash: it requires literally no thought.  But beware: emotional utility, as represented by your effort, is a slippery affair. The trouble you go to tracking down a special, rare (and expensive) edition of a Slipknot CD might score high on the emotional utility scale, but it might be the wrong thought if it’s your gift for great aunt Ethel. And a jumper you knitted yourself, with a wonderful Christmassy theme, no matter how many hours it cost you (and even how well it fits), or three jars of home-made plum jam, no matter how sweet, may fail to provide much overall utility as a gift to your 15-year old daughter.

It’s even worse if you get something that you believe they should like (because you like it). Don’t get anyone a Strictly Come Dancing box set unless you are 100% certain that this would make their day, however much you enjoy it. And be very, very careful with ethical gifts like a donation of a goat to a remote Ethiopian village, or malaria nets for a family in Mali in the name of the recipient. The thought here might be impossibly noble, but you’re in high risk territory here.  Better use your own money for being ethical.


Beware of the goat (photo: chraeker)

Another temptation is that of trying to put your highly original personality in the choice of your gift. If you see yourself as a funny, an eccentric, or even a sensitive kind of person, it is appealing to want to choose a gift that reflects that side of you. But will that really go down as well as you think with the recipient of your generosity?

Getting to the point

Ultimately, aversion to reputational loss is just a boundary condition. With the rare exception of entirely symbolic gifts (like the ones the queen gets when a foreign head of state visits), the utility of giving a gift to you is intimately tied up with the overall utility it gives to the recipient. The happier they are, the happier you are.

If you start from there, you cannot really go wrong. If, as you read this, you still need to get a present for someone, make finding out what makes them happy the focus of your thought and your effort, and you should be OK.

And when, on Christmas day, you open the gifts you receive, think about how it makes you happy, rather than about how happy it makes you. That way you will get the most utility out of it.

Merry Christmas!


Posted in Behavioural economics, Cognitive biases and fallacies, Economics, Emotions | Tagged , , | Leave a comment

Democracy’s feet of clay

Do people make good choices when they vote? *Can* they?

How come most of us, most of the time, don’t do crazy things? We make hundreds of decisions every day – lots of small ones, and once in a while some more momentous ones. With each one, we have the opportunity to do something really stupid, and yet we don’t. That is pretty remarkable.

Imagine you’re trundling along, lost in thought, and you start crossing the road without paying due attention to the traffic. Suddenly you hear the blast of a horn. You don’t stop to look where it comes from and try to identify what it might be. No, you unceremoniously jump back onto the pavement. That’s your thinking System 1 at work, quick and impulsive, capable of making a decision and instructing your muscles to carry it out in a split second.

But if you are buying a house, you would not take a decision at such speed. On the contrary, you would probably take days or weeks to mull over the pluses and minuses of several possible purchases. Are there bus stops and maybe schools nearby? Is it on a busy road or in a quiet backwater, and is it close to the local amenities? That would be your System 2: slow and thorough, analytical and reasoned, capable of weighing up multiple facets different options.

The right upper hand

Of course you might, immediately after nearly having been run over, be a bit embarrassed and self-conscious about that inelegant jump back onto the pavement. But that consideration comes afterwards. It’s your System 1 that has the upper hand when life and limb might be at risk, unencumbered by worries about looking foolish. On the other hand, you might have felt an immediate attraction for one of the houses you’re considering, but even that will eventually be just one factor in the much more analytical decision making of your System 2 when determining on which house you will spend (and borrow) several years’ income.

Economics Nobel Prize winner Daniel Kahneman popularized the concept of System 1 and System 2 thought (first coined by psychologists Keith Stanovich and Richard West). In his book, Thinking, Fast and Slow, he illustrates how, sometimes, we do make impulsive decisions that had better be more reasoned. Anyone who has ever eaten a whole family bag of crisps before dinner, or drunk so much alcohol that they woke up with the mother of all hangovers the next day will understand. Sometimes we do the opposite, agonizing way too long over a decision where the possible outcomes don’ really differ that much. But by and large, our System 1 and System 2 serve us well, and help us make sure we make choices that are in our long-term self-interest. (If we systematically failed to do that, our species would have long been extinct).


What would your System 2 say about all this? (image: Gellinger)

You would expect that if you put this powerful decision-making capability of a whole bunch of people together, you’d end up with pretty good decisions.

Democratic elections come to mind, for parliamentary representatives or presidents, or even referendums. By sheer force of numbers, the extremes of impulsive votes (like protest votes) would be moderated by the more reasoned votes. That assumption seems to have worked for most of the post-WWII period in the western world and beyond… until recently. Political analysts will no doubt continue to study the Brexit referendum and the election of Donald Trump as US president. But meanwhile there is a broad consensus that, in both cases, protest votes contributed significantly to the unexpected outcome.

System 2 overloaded

Perhaps the surprise is not so much these recent unforeseen outcomes, but the fact that they have been so rare in the last seventy years. Do elections really distil the wisdom of the crowds – does it tap our System 2? We, the electorate, are given very complex choices. It is exceptional for any candidate or any party to stand for a programme that coincides entirely with our own preferences. So we zoom in certain aspects – what is salient to us.

But even narrowing things down to what matters to us generally doesn’t help us reason and weigh up the political options. There may be elements in one manifesto with which we strongly agree, but others with which we strongly disagree. Likewise for the alternatives. So how do we aggregate all this? Our poor System 2 has no idea what to do with it – so we revert back to our beliefs, heuristics and gut feel. How did we vote last time? How do the members of our ingroup vote? Where do our ideological convictions lie? Or indeed, which of the candidates’ looks do we like the looks of the most or the least?


Jones or Moore… who would you trust most with your wallet, or your children? (images: Wikimedia)

The US Senate special election in Alabama on 12 December provided a compelling case study for the tensions that voters face.

It was a two-horse race in a state that had not elected a Democratic Senator since 1990. According to Wikipedia, Republican candidate Roy Moore is firmly and consistently on the far right of the political spectrum. However, he was also controversial as a judge, and most importantly, he is the subject of multiple sexual misconduct allegations.

In a polarized political climate, as the US currently experiences, the choice for the Democrats was obvious. But for the Republicans it was different. Mr Moore’s simple and clear, but extreme politics might not be to the taste of many moderate ideological Republicans. Should they have let tribalism dominate and vote for the person with the right party affiliation? Or should they have voted for Doug Jones, the Democrat candidate instead, because his politics might actually have been closer to theirs? (That is what 8% did.)


And what with the sexual misconduct allegations? Should they play a part? Some people concluded that 48% of voters were willing to elect a paedophile (one of the sexual abuse allegations involved a woman who was 14 at the time).

That’s an easy accusation to make if it concerns a candidate for whom you’d never vote anyway. But imagine a candidate who is perfectly aligned with your politics. At what point would their morality make you vote for their opponent?

Impossible dilemma

Faced with such an impossible dilemma (something many also experienced at last year’s presidential election), as an individual voter you could decide to abstain and avoid going loopy. This is what 60% of registered Alabaman voters did. But as a community, this is irrelevant: someone will eventually be elected. Will that be the best candidate – the crowd’s System 2 choice – if individuals opt out?

Politics should really be the domain of our collective System 2. Elections have a huge influence over our future. Our representatives and leaders are elected for four, five, six years or even more, which is already long enough. But the decisions they make on our behalf stretch much further out.

Even if the choice we face is not between politics and morals, but between two complex sets of political preferences, we are up against an impossible task. Taxing labour or taxing wealth? More public provision of healthcare or private insurance? Free trade or protectionism? Same-sex marriage or traditional values? Legalizing drugs or three-strikes-you’re-out? Our individual System 2 can simply not cope, and so by default our System 1 takes over.

Maybe one day Google’s AlphaZero Artificial Intelligence will be capable of helping us poor bags of meat and bones with solving real-life challenges, as well as play games – however complex.

But until that time, we should concede that any hopes of System 2-driven electoral democracies are idle. We had better be ready for the consequences of many more collective System 1 decisions.


Posted in Behavioural economics, Cognitive biases and fallacies, Morality, politics | Tagged , , | Leave a comment

When loss aversion is your loss

(credit: Jim Culp)

What are we really giving up when we are being led by extreme loss aversion?

An old friend of mine took up an unusual hobby at a relatively advanced age (well he was younger then than I am now, so maybe I will need to rephrase that). About ten years ago, he bought an old Formula Ford car and started participating in the Historic Formula Ford Car championship.

In his Christmas card (traditionally among the first we receive), he mentioned he had been doing quite well (“for his age”, he always adds) in the races he took part in this season. I had to explain to my wife what Formula Ford racing was: driving around at speeds of up to 130mph in an open top, single seater, open wheel car looking somewhat like cross between a go-cart and a Formula-1 car.

An adrenalin problem

There must be something wrong with his adrenalin, my wife said. Why on earth would a sensible person get into such a flimsy vehicle, to drive it around at breakneck speeds, risking life and limb?

I am not sure what it would mean in practice to ‘have something wrong with one’s adrenalin’. But if my friend has a preference for an adrenalin fix that can be fulfilled by driving an old car round a track, trying to overtake without being overtaken, then that might actually be a pretty rational thing to do. And maybe my better half’s conclusion that it would not be for her could be equally rational. The cost represented by the risk of an accident with dire consequences would not be outweighed by any identifiable benefit to her.


The biggest problem is the extension lead (image: theredrocket)

But when we think of such pastimes, or of even more risky activities like BASE jumping, highlining or (the slightly frivolous) extreme ironing, do we actually make a conscious trade-off when we decide it’s not our bag? Perhaps not. What we do instead is zoom in on the risk, or more precisely on the potential loss (because we don’t even look at the probabilities). We visualize the terrible consequences of a mishap, and we conclude we want to avoid this – effectively at any price. We do not consider the possible upside.

That is, in a way, an extreme version of loss aversion. Typically this refers to our tendency to prefer avoiding a loss over acquiring an equivalent gain – i.e. we think it is worse to lose £5 than to miss the chance of gaining £5. But in this case we make no comparison: we simply choose to avoid the loss, full stop.

Businesses too display  extreme loss aversion. Earlier this week, economist and expert on global inequality Branko Milanovic tweeted his dismay with being unable to open his hotel window in Mexico to enjoy the mild temperatures outside. It did not open ‘for security reasons’.  Presumably the hotel wanted to avoid guests staying with them only to then promptly commit suicide by jumping out of the window.

Self-defenestration is an uncommon way to commit suicide in most countries. But it is the salience of events like this that might be behind such windows-firmly-shut policies. Here too, the thought of a really bad outcome, irrespective of the probability, inspires decision making.

It is not true that there is no loss, though. It is guests like Branko who pay the price, in inconvenience and frustration. (He was cold because of the permanently on aircon fixed to 18 degrees C, and so he had no choice but to switch on the space heater.)

Nuanced reasoning


Let’s not take any risks here. (image: PIRO4D)

It is easy to see (or think we see) irrationality in other people’s actions and decisions. But chances are we, too, are making choices based on fear of a certain outcome rather on a cool evaluation of costs, benefits and actual risk.

When news reports of assaults and muggings on the streets in the evening make us decide not to go out, it is true that we will avoid with certainty being assaulted and mugged out on the street. But the reports don’t give us an accurate view of how likely that is. And by staying in, we lose out on the chance of meeting up with friends, going to the cinema or the theatre. Is that a good trade-off?

When we have an invitation to a function with lots of interesting people, but we are afraid that nobody will pay attention to us and we’ll be a wallflower all evening, not going means we will be spared that deeply awkward experience. But no matter how vividly we can imagine standing on our own in a corner all the time, how likely is this really, and what delightful encounters might we miss?

When look at our savings and we anxiously want to avoid any kind of investment in which we might lose some of our capital, leaving all the money in a savings account with a pitiful interest rate, we definitely avoid losing our capital. But are we, by rejecting any prospect of loss, however improbable, really acting in our interest?

The simplicity of being led by the horror of the worst possible outcome is tempting. But if we really want to do what is best for us, we should try to resist it, and reason in a nuanced way. Only if we consider what we really give up by giving in to extreme loss aversion can we come to the right conclusion.

And who knows, maybe soon you too will be enjoying the thrills of extreme ironing.

Posted in Behavioural economics, Cognitive biases and fallacies | Tagged | Leave a comment