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But the main problem was that we failed to allow for what Donald Rumsfeld famously called the “unknown unknowns.” There was no way for us to foresee, that day, the succession of events that would cause the project to drag out for so long. The
planning fallacy to describe plans and forecasts that are unrealistically close to best-case scenarios could be improved by consulting the statistics of similar cases Examples of the planning fallacy abound in the experiences of individuals, governments, and businesses.
The treatment for the planning fallacy has now acquired a technical name, reference class forecasting, and Flyvbjerg has applied it to transportation projects in several countries. The outside view is implemented by using a large database, which provides information on both plans and outcomes for hundreds of projects all over the world, and can be used to provide statistical information about the likely overruns of cost and time, and about the likely underperformance of projects of different types.
Identify an appropriate reference class (kitchen renovations, large railway projects, etc.). Obtain the statistics of the reference class (in terms of cost per mile of railway, or of the percentage by which expenditures exceeded budget). Use the statistics to generate a baseline prediction. Use specific information about the case to adjust the baseline prediction, if there are particular reasons to expect the optimistic bias to be more or less pronounced in this project than in others of the same type.
This reasoning leads to a hypothesis: the people who have the greatest influence on the lives of others are likely to be optimistic and overconfident, and to take more risks than they realize.
We focus on our goal, anchor on our plan, and neglect relevant base rates, exposing ourselves to the planning fallacy. We focus on what we want to do and can do, neglecting the plans and skills of others. Both in explaining the past and in predicting the future, we focus on the causal role of skill and neglect the role of luck. We are therefore prone to an illusion of control. We focus on what we know and neglect what we do not know, which makes us overly confident in our beliefs.
They compare themselves to the average without ever thinking about the average. The evidence for the cognitive interpretation of the above-average effect is that when people are asked about a task they find difficult (for many of us this could be “Are you better than average in starting conversations with strangers?”), they readily rate themselves as below average.
Colin Camerer and Dan Lovallo, who coined the concept of competition neglect, illustrated it with a quote from the then chairman of Disney Studios. Asked why so many expensive big-budget movies are released on the same days (such as Memorial Day and Independence Day), he replied:
The consequence of competition neglect is excess entry: more competitors enter the market than the market can profitably sustain, so their average outcome is a loss.
Tamil movie industry
The effects of high optimism on decision making are, at best, a mixed blessing, but the contribution of optimism to good implementation is certainly positive.
The procedure is simple: when the organization has almost come to an important decision but has not formally committed itself, Klein proposes gathering for a brief session a group of individuals who are knowledgeable about the decision. The premise of the session is a short speech: “Imagine that we are a year into the future. We implemented the plan as it now exists. The outcome was a disaster. Please take 5 to 10 minutes to write a brief history of that disaster.”
“The agent of economic theory is rational, selfish, and his tastes do not change.”
To predict the subjective experience of loudness, it is not enough to know its absolute energy; you also need to know the reference sound to which it is automatically compared.
theory-induced blindness: once you have accepted a theory and used it as a tool in your thinking, it is extraordinarily difficult to notice its flaws.
We were not the first to notice that people become risk seeking when all their options are bad,
Evaluation is relative to a neutral reference point, which is sometimes referred to as an “adaptation level.”
principle of diminishing sensitivity applies to both sensory dimensions and the evaluation of changes of wealth.
The third principle is loss aversion. When directly compared or weighted against each other, losses loom larger than gains.
especially for goods that are not regularly traded. You can easily imagine yourself in a similar situation. Suppose you hold a ticket to a sold-out concert by a popular band, which you bought at the regular price of $200. You are an avid fan and would have been willing to pay up to $500 for the ticket. Now you have your ticket and you learn on the Internet that richer or more desperate fans are offering $3,000.
No endowment effect is expected when owners view their goods as carriers of value for future exchanges, a widespread attitude in routine commerce and in financial markets.
People who are poor think like traders, but the dynamics are quite different. Unlike traders, the poor are not indifferent to the differences between gaining and giving up. Their problem is that all their choices are between losses. Money that is spent on one good is the loss of another good that could have been purchased instead. For the poor, costs are losses.
the negative trumps the positive in many ways, and loss aversion is one of many manifestations of a broad negativity dominance.
Loss aversion refers to the relative strength of two motives: we are driven more strongly to avoid losses than to achieve gains. A reference point is sometimes the status quo, but it can also be a goal in the future: not achieving a goal is a loss, exceeding the goal is a gain.
The aversion to the failure of not reaching the goal is much stronger than the desire to exceed it.
The same is true, of course, of the very painful concessions you demand from me, which you do not appear to value sufficiently! Negotiations over a shrinking pie are especially difficult, because they require an allocation of losses. People tend to be much more easygoing when they bargain over an expanding pie.
Animals, including people, fight harder to prevent losses than to achieve gains.
Loss aversion is a powerful conservative force that favors minimal changes from the status quo in the lives of both institutions and individuals.
The certainty effect is also more striking than the possibility effect if the outcome is a surgical disaster rather than a financial gain.
When Amos and I began our work on prospect theory, we quickly reached two conclusions: people attach values to gains and losses rather than to wealth, and the decision weights that they assign to outcomes are different from probabilities.
This is where people who face very bad options take desperate gambles, accepting a high probability of making things worse in exchange for a small hope of avoiding a large loss. Risk taking of this kind often turns manageable failures into disasters. The thought of accepting the large sure loss is too painful, and the hope of complete relief too enticing, to make the sensible decision that it is time to cut one’s losses. This is where businesses that are losing ground to a superior technology waste their remaining assets in futile attempts to catch up. Because defeat is so difficult to accept,
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you can see that paying a premium to avoid a small risk of a large loss is costly.
My experience illustrates how terrorism works and why it is so effective: it induces an availability cascade. An extremely vivid image of death and damage, constantly reinforced by media attention and frequent conversations, becomes highly accessible, especially if it is associated with a specific situation such as the sight of a bus.
Emotion and vividness influence fluency, availability, and judgments of probability—and thus account for our excessive response to the few rare events that we do not ignore.
The probability of a rare event is most likely to be overestimated when the alternative is not fully specified.
As expected, the difference between the high-probability and low-probability gambles was much more pronounced for the money than for the roses.
The story, I believe, is that a rich and vivid representation of the outcome, whether or not it is emotional, reduces the role of probability in the evaluation of an uncertain prospect. This hypothesis suggests a prediction, in which I have reasonably high confidence: adding irrelevant but vivid details to a monetary outcome also disrupts calculation.
Cognitive ease contributes to the certainty effect as well: when you hold a vivid image of an event, the possibility of its not occurring is also represented vividly, and overweighted. The combination of an enhanced possibility effect with an enhanced certainty effect leaves little room for decision weights to change between chances of 21% and 84%.
The idea that fluency, vividness, and the ease of imagining contribute to decision weights gains support from many other observations.
As predicted by denominator neglect, low-probability events are much more heavily weighted when described in terms of relative frequencies (how many) than when stated in more abstract terms of “chances,” “risk,” or “probability” (how likely). As
The power of format creates opportunities for manipulation, which people with an axe to grind know how to exploit.
As in many other choices that involve moderate or high probabilities, people tend to be risk averse in the domain of gains and risk seeking in the domain of losses.
The example also shows that it is costly to be risk averse for gains and risk seeking for losses.
The combination of loss aversion and narrow framing is a costly curse. Individual investors can avoid that curse, achieving the emotional benefits of broad framing while also saving time and agony,
As might be expected, finance research has documented a massive preference for selling winners rather than losers—a bias that has been given an opaque label: the disposition effect.
The decision to invest additional resources in a losing account, when better investments are available, is known as the sunk-cost fallacy,
Regret is one of the counterfactual emotions that are triggered by the availability of alternatives to reality.
people expect to have stronger emotional reactions (including regret) to an outcome that is produced by action than to the same outcome when it is produced by inaction.
Poignancy (a close cousin of regret) is a counterfactual feeling, which is evoked because the thought “if only he had shopped at his regular store…” comes readily to mind. The familiar System 1 mechanisms of substitution and intensity matching translate the strength of the emotional reaction to the story onto a monetary scale, creating a large difference in dollar awards.
You should not form the impression that single and joint evaluations are always inconsistent, or that judgments are completely chaotic. Our world is broken into categories for which we have norms, such as six-year-old boys or tables. Judgments and preferences are coherent within categories but potentially incoherent when the objects that are evaluated belong to different categories. For
Caring for people often takes the form of concern for the quality of their stories, not for their feelings.
