Thinking, Fast and Slow

by Daniel Kahneman

The magic of the market did not work for a good that the owners expected to use.

Loss aversion is built into the automatic evaluations of System 1.

Selling goods that one would normally use activates regions of the brain that are associated with disgust and pain.

Brain recordings also indicate that buying at especially low prices is a pleasurable event.

The fundamental ideas of prospect theory are that reference points exist, and that losses loom larger than corresponding gains.

However, it is well understood that reference points are labile, especially in unusual laboratory situations, and that the endowment effect can be eliminated by changing the reference point.

List found a large effect of trading experience on the endowment effect for new goods.

Participants displayed an endowment effect only if they had physical possession of the good for a while before the possibility of trading it was mentioned.

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.

Some experimenters have reported that an angry face “pops out” of a crowd of happy faces, but a single happy face does not stand out in an angry crowd.

a mechanism that is designed to give priority to bad news.

The brain responds quickly even to purely symbolic threats. Emotionally loaded words quickly attract attention, and bad words (war, crime) attract attention faster than do happy words (peace, love). There is no real threat, but the mere reminder of a bad event is treated in System 1 as threatening.

The psychologist Paul Rozin, an expert on disgust, observed that a single cockroach will completely wreck the appeal of a bowl of cherries, but a cherry will do nothing at all for a bowl of cockroaches.

“Bad emotions, bad parents, and bad feedback have more impact than good ones, and bad information is processed more thoroughly than good.

In many situations, however, the boundary between good and bad is a reference point that changes over time and depends on the immediate circumstances.

The existing terms define reference points, and a proposed change in any aspect of the agreement is inevitably viewed as a concession that one side makes to the other. Loss aversion creates an asymmetry that makes agreements difficult to reach.

Negotiations over a shrinking pie are especially difficult, because they require an allocation of losses.

Many of the messages that negotiators exchange in the course of bargaining are attempts to communicate a reference point and provide an anchor to the other side.

Animals, including people, fight harder to prevent losses than to achieve gains. In the world of territorial animals, this principle explains the success of defenders. A biologist observed that “when a territory holder is challenged by a rival, the owner almost always wins the contest—usually within a matter of seconds.”

As initially conceived, plans for reform almost always produce many winners and some losers while achieving an overall improvement. If the affected parties have any political influence, however, potential losers will be more active and determined than potential winners; the outcome will be biased in their favor and inevitably more expensive and less effective than initially planned.

Loss aversion is a powerful conservative force that favors minimal changes from the status quo in the lives of both institutions and individuals.

A basic rule of fairness, we found, is that the exploitation of market power to impose losses on others is unacceptable.

More recent research has supported the observations of reference-dependent fairness and has also shown that fairness concerns are economically significant, a fact we had suspected but did not prove.

Employers who violate rules of fairness are punished by reduced productivity, and merchants who follow unfair pricing policies can expect to lose sales.

Unfairly imposing losses on people can be risky if the victims are in a position to retaliate. Furthermore, experiments have shown that strangers who observe unfair behavior often join in the punishment.

It appears that maintaining the social order and the rules of fairness in this fashion is its own reward.

This is simply a cumbersome way of saying that some characteristics influence your assessment more than others do. The weighting occurs whether or not you are aware of it; it is an operation of System 1.

the certainty effect. Outcomes that are almost certain are given less weight than their probability justifies.

Because of the possibility effect, we tend to overweight small risks and are willing to pay far more than expected value to eliminate them altogether.

the decision weights that people assign to outcomes are not identical to the probabilities of these outcomes, contrary to the expectation principle.

It is difficult to assign a unique decision weight to very rare events, because they are sometimes ignored altogether, effectively assigned a decision weight of zero. On the other hand, when you do not ignore the very rare events, you will certainly overweight them.

Neither idea was completely new, but in combination they explained a distinctive pattern of preferences that we called the fourfold pattern.

A lottery ticket is the ultimate example of the possibility effect. Without a ticket you cannot win, with a ticket you have a chance, and whether the chance is tiny or merely small matters little.

what people acquire with a ticket is more than a chance to win; it is the right to dream pleasantly of winning.

First, there is diminishing sensitivity.

The second factor may be even more powerful: the decision weight that corresponds to a probability of 90% is only about 71,

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.

Consistent overweighting of improbable outcomes—a feature of intuitive decision making—eventually leads to inferior outcomes.

illustrates how terrorism works and why it is so effective: it induces an availability cascade.

System 2 may “know” that the probability is low, but this knowledge does not eliminate the self-generated discomfort and the wish to avoid it. System 1 cannot be turned off.

The psychology of high-prize lotteries is similar to the psychology of terrorism.

The probability of a rare event is most likely to be overestimated when the alternative is not fully specified.

Other researchers had found, using physiological measures such as heart rate, that the fear of an impending electric shock was essentially uncorrelated with the probability of receiving the shock.

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.

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 bias has been given several names; following Paul Slovic I will call it denominator neglect. If your attention is drawn to the winning marbles, you do not assess the number of nonwinning marbles with the same care.

The idea of denominator neglect helps explain why different ways of communicating risks vary so much in their effects.

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).

Life, however, is usually a between-subjects experiment, in which you see only one formulation at a time. It would take an exceptionally active System 2 to generate alternative formulations of the one you see and to discover that they evoke a different response.