Predictably Irrational: The Hidden Forces That Shape Our Decisions

by Dan Ariely

the idea that science is an empirical endeavor in which all the participants, including a new student like myself, could come up with alternative theories, as long as they found empirical ways to test these theories, opened up a new world to me.

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 don’t even know what we want to do with our lives—until we find a relative or a friend who is doing just what we think we should be doing.

high-priced entrées on the menu boost revenue for the restaurant—even if no one buys them. Why? Because even though people generally won’t buy the most expensive dish on the menu, they will order the second most expensive dish. Thus, by creating an expensive dish, a restaurateur can lure customers into ordering the second most expensive choice (which can be cleverly engineered to deliver a higher profit margin).

visual demonstration of relativity.

We like to make decisions based on comparisons.

Flustered by poor sales, the manufacturer of the bread machine brought in a marketing research firm, which suggested a fix: introduce an additional model of the bread maker, one that was not only larger but priced about 50 percent higher than the initial machine. Now sales began to rise (along with many loaves of bread), though it was not the large bread maker that was being sold. Why? Simply because consumers now had two models of bread makers to choose from. Since one was clearly larger and much more expensive than the other, people didn’t have to make their decision in a vacuum. They could say: “Well, I don’t know much about bread makers, but I do know that if I were to buy one, I’d rather have the smaller one for less money.” And that’s when bread makers began to fly off the shelves.

RELATIVITY HELPS US make decisions in life. But it can also make us downright miserable. Why? Because jealousy and envy spring from comparing our lot in life with that of others.

The idea was that once pay was in the open, boards would be reluctant to give executives outrageous salaries and benefits. This, it was hoped, would stop the rise in executive compensation, which neither regulation, legislation, nor shareholder pressure had been able to stop. And indeed, it needed to stop: in 1976 the average CEO was paid 36 times as much as the average worker. By 1993, the average CEO was paid 131 times as much. But guess what happened. Once salaries became public information, the media regularly ran special stories ranking CEOs by pay. Rather than suppressing the executive perks, the publicity had CEOs in America comparing their pay with that of everyone else. In response, executives’ salaries skyrocketed. The trend was further “helped” by compensation consulting firms (scathingly dubbed “Ratchet, Ratchet, and Bingo” by the investor Warren Buffett) that advised their CEO clients to demand outrageous raises. The result? Now the average CEO makes about 369 times as much as the average worker—about three times the salary before executive compensation went public.

if everyone knew everyone else’s salary, it would be a true catastrophe. All but the highest-paid individual would feel underpaid—and I wouldn’t be surprised if they went out and looked for another job.”

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.

the more we have, the more we want. And the only cure is to break the cycle of relativity.

From the beginning, for instance, Assael “anchored” his pearls to the finest gems in the world—and the prices followed forever after. Similarly, once we buy a new product at a particular price, we become anchored to that price.

This, then, is what we call arbitrary coherence. 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).

But price tags by themselves are not necessarily anchors. They become anchors when we contemplate buying a product or service at that particular price. That’s when the imprint is set.

We call this type of behavior herding. It happens when we assume that something is good (or bad) on the basis of other people’s previous behavior, and our own actions follow suit.

in terms of our personal lives, we can actively improve on our irrational behaviors. We can start by becoming aware of our vulnerabilities.

the price changes would make a huge impact on demand if people remembered the previous prices and noticed the price increases;

a free market based on supply, demand, and no friction would be the ideal if we were truly rational. Yet when we are not rational but irrational, policies should take this important factor into account.

sometimes we want our decisions to have a rational veneer when, in fact, they stem from a gut feeling—what we crave deep down. I suspect that in our attempts to make sure that we end up with decisions that seem well-reasoned and thoughtful, we commonly undergo a lot of unnecessary mental gymnastics and justifications, particularly when the choices are large and significant.

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).

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.

we live simultaneously in two different worlds—one where social norms prevail, and the other where market norms make the rules.

Because once market norms enter our considerations, the social norms depart.

The conclusion: no one is offended by a small gift, because even small gifts keep us in the social exchange world and away from market norms.

They reacted to the explicitly priced gift in exactly the way they reacted to cash, and the gift no longer invoked social norms—by the mention of its cost, the gift had passed into the realm of market norms.

Before the fine was introduced, the teachers and parents had a social contract, with social norms about being late. Thus, if parents were late—as they occasionally were—they felt guilty about it—and their guilt compelled them to be more prompt in picking up their kids in the future. (In Israel, guilt seems to be an effective way to get compliance.) But once the fine was imposed, the day care center had inadvertently replaced the social norms with market norms. Now that the parents were paying for their tardiness, they interpreted the situation in terms of market norms. In other words, since they were being fined, they could decide for themselves whether to be late or not, and they frequently chose to be late. Needless to say, this was not what the day care center intended.

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.

Medical benefits, and in particular comprehensive medical coverage, are among the best ways a company can express its side of the social exchange. But what are many companies doing? They are demanding high deductibles in their insurance plans, and at the same time are reducing the scope of benefits. Simply put, they are undermining the social contract between the company and the employees and replacing it with market norms. As companies tilt the board, and employees slide from social norms to the realm of market norms, can we blame them for jumping ship when a better offer appears?

while gifts are financially inefficient, they are an important social lubricant.

when price is not a part of the exchange, we become less selfish maximizers and start caring more about the welfare of others.

the dark side of putting a price on pollution. If a company can be charged for spewing poisons into the environment, it might well decide, after a cost-benefit analysis, that it can go ahead and pollute a lot more. Once pollution is a market and companies pay for their right to pollute, morality and concern for the environment are nonissues.

The results showed that when Roy and the other participants were in a cold, rational, superego-driven state, they respected women; they were not particularly attracted to the odd sexual activities we asked them about; they always took the moral high ground; and they expected that they would always use a condom. They thought that they understood themselves, their preferences, and what actions they were capable of. But as it turned out, they completely underestimated their reactions.

sex education should focus less on the physiology and biology of the reproductive system, and more on strategies to deal with the emotions that accompany sexual arousal.

Perhaps there is no such thing as a fully integrated human being. We may, in fact, be an agglomeration of multiple selves.

Giving up on our long-term goals for immediate gratification, my friends, is procrastination.

without precommitments, we keep on falling for temptation.

“Virtual ownership,” of course, is one mainspring of the advertising industry.

we overvalue everything that we own,

We are continually reminded that we can do anything and be anything we want to be. The problem is in living up to this dream. We must develop ourselves in every way possible; must taste every aspect of life; must make sure that of the 1,000 things to see before dying, we have not stopped at number 999. But then comes a problem—are we spreading ourselves too thin?

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.

These results show that even our own behavior can be influenced by our stereotypes, and that activation of stereotypes can depend on our current state of mind and how we view ourselves at the moment.

When stripping away our preconceptions and our previous knowledge is not possible, perhaps we can at least acknowledge that we are all biased. If we acknowledge that we are trapped within our perspective, which partially blinds us to the truth, we may be able to accept the idea that conflicts generally require a neutral third party—who

expectations play a huge role in the way we end up experiencing things.

THE BRILLIANT SATIRIST Alexander Pope once wrote: “Blessed is he who expects nothing, for he shall never be disappointed.”

The truth is that placebos run on the power of suggestion. They are effective because people believe in them.

When it comes to medicines, then, we learned that you get what you pay for. Price can change the experience.

“the tragedy of the commons” to describe the same basic principle: when we use a common resource at a rate that is slower than the rate at which it replenishes, all is well. However, if a few individuals get greedy and use more than their share, the system of consumption becomes unsustainable, and in the long term, everybody loses.

once we begin to cheat, even if only by a little, over time it can become a habit.