Book Price Comparisons
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 An Interesting book but one with which I have several quibbles about the research methodologies and conclusions. I find this book significantly more informative and interesting than Predictably Irrational, but here, too, the authors, Thaler & Sunstein (T&S), are not providing sufficient details for us to appreciate their conclusions and how they arrive at them. Let me give some examples of the short-comings of their reasoning: 1) In the section on optimism and overconfidence Thaler asks the students in his class: "In which decile do you expect to fall in the distribution of grades in the class." He reports: more than half the class expects to perform in the top two deciles. He says, since that's not possible, he thinks the result of the survey reveals a high degree of unrealistic optimism about performance in the class. To me the survey seems a bit flawed because at most high schools and colleges 80% or more of the students receive A or B grades and less than 20% receive C, D, F, P (Pass) or I (Incomplete) grades. Why wouldn't the students think they'd be in the top two deciles when answering the survey? The survey does not necessarily show that students are overconfident but that they may be framing or anchoring incorrectly to their past experience. And, frankly, I can't figure out the difference between the two methods - framing and anchoring - for guessing. My quibble with such experiments, surveys and polls is that they are rigged to get the effect that the experimenter has in mind and there seem to be several alternate explanations for the observed behavior. 2) In the section on gains and losses, the authors say that losing something makes *us* twice as miserable as gaining the same thing makes us happy. First of all, the ratio of two (based on the word "twice") is probably only true for the people they conducted the survey on - namely, the students - and it also depends on the item that is used in the experiment; for example, T&S use free mugs whereas Ariely, in the book Predictably Irrational, uses football tickets. In most cases the subjects are students who have limited experience and are financially constrained; therefore, the results are unlikely to apply to the population at large. Of course we value gains less than we value losses it's what every basic economics course teaches us - i.e., the marginal utility of an additional unit of anything (money, widget, gadget, food, toy, etc...) diminishes as we have more of it. 3) The authors conduct an experiment where half the students receive free mugs. This experiment is similar to the one reported by Ariely, where half the students win tickets to a football game in a lottery. T&S find that the students who get free mugs ask about twice the price for their mugs, which they are willing to sell, than those who did not get the mugs. Ariely, on the other hand, finds those who won free tickets to the football game ask for 14 times as much to sell their tickets as those students, who did not win the tickets, are willing to pay for a ticket. These experiments, related to measuring the endowment effect, are flawed. Here is why: suppose the value of similar quality mugs in a retail store is $10. Then, clearly, the students who were given free mugs will want $10 for each of their mugs - i.e., the market value of the mugs when offering to sell them. However, the budget-constrained (poor) students, who do not have the mugs, will only offer what they can afford from their tight budget - i.e., what *they* value not what the going-price is in the market, if their reservation value is less than the market price. 4) In a different chapter the authors describe the behavior of yielding to temptation as sub-optimal and so they offer a solution for resisting it. It's not clear that yielding to temptation is suboptimal behavior. Imagine having to resist our temptation to stop and smell the roses, each time we had the opportunity to do so - how boring would that be? The solution the authors prescribe is to penalize (tax) people when they deviate from their long term plan. While their proposal seems like it could be a good idea it often turns out to be a terrible idea because the penalty makes it very costly for people to seize exciting and profitable opportunities that come along the way and open up other new possibilities. Upon careful thinking, the behavior of resigning to temptation is similar to the behavior of weighing losses more than the value of gains - i.e., since we weigh the loss (penalty) more than we weigh the gain (taking advantage of an opportunity), one can be deterred from deviating from her/his plan if she/he must pay a sufficiently hefty penalty for doing so. I have explained in (2), above, that our behavior of weighing equal-sized gains and losses differently is something that the economics profession has known for decades - it's described as diminishing marginal utility. Surrendering to our temptations is also the same as the behavior described in experiments about the endowment effect, discussed in (3), above. The examples are indeed different and the labels given to the examples are different but the human behavior in all three cases - i.e., the issues discussed in (2), (3) and (4) - is the same. 5) T&S report that "Status Quo Bias" or "Default Options" can get us into a lot of trouble. But when the bias can get us in a LOT of trouble we tend to avoid taking the default options and instead make active choices and, when the consequences are minor, we tend to stick with the default options. Sticking with the status quo solves many coordination problems and helps us make decisions and take actions rapidly, which often produce great savings and quick profits. Their entire discussion on the Status Quo bias is something we all know well - i.e., sometimes it's better to choose the default and at other times it's better to make active decisions. T&S don't provide evidence to show that we make sub-optimal tradeoffs - they just make the reader aware that tradeoffs exist. 6) Later T&S give an example that the competitive market in banking protects the fools who like quarters more than dollar bills - i.e., those individuals who would trade away a dollar for just two quarters - because competition among banks to get the fools' dollars drives the exchange rate to four quarters even though the fools would be satisfied with having just two. T&S fail to realize that a bank's willingness to offer 4 quarters for a dollar is not due to competition with other banks but is a courtesy. Even stores offer the same courtesy. Why our societies are courteous only on some dimensions is something I don't know, but attributing the currency exchange (for the same currency) behavior of banks as proofs of competition among them is incorrect because it costs the bank to offer this courtesy to everyone, not just to their customers, and yet they provide it without charging a fee. A few paragraphs later T&S say there does not exist competition in the market for extended warranties for appliances and that companies earn extra profits by offering warranty and service contracts (and flight insurance) to the customers who purchase their products. That extended warranties are offered at ten times the value of the contract. I think their intuition arises from the fact that when a customer purchases a product, the extended warranty must be purchased from the same company, just like flight insurance or auto rental insurance must be purchased from the same airline or the same car rental company, respectively. But customers take into account the total cost of purchasing the appliance, which includes the cost of the extended warranty and the competition for supplying the combination, the product and service, is indeed very healthy. You see, it costs the firm to administer the warranty or the flight insurance, both at the time of the sale and later if a claim is filed - where the claim has to be processed, verified and the item has to be replaced. The cost of honoring the contract is not just the cost of replacing the defective item but also includes the cost of administering the contract and that's why firms offer warranty contracts at costs which exceed the expected product cost. To be sure, the ratio is not ten times for large ticket items, like for cars! And, if the firms are successfully earning extra profits by selling extended warranties at ten times the true value of the contracts, as T&S suggest, then why don't they try to generate even greater profits by selling the warranties at 12 times the expected product cost? Clearly, the competitive forces are indeed at work, which put a lid on the maximum price that firms may charge for extended warranties and for flight insurances or baggage insurance.  Important for medical decisions as well "Buy on apples, sell on cheese" is an old proverb among wine merchants. Taking a bite of an apple before tasting wine makes it easier to detect flaws in the wine, and the buyer who does so will not as easily make the mistake of paying more than the wine is worth. Cheese, on the other hand, pairs well with wine and enhances its flavor, so a seller who offers cheese may command a higher price for the wine (and may even deserve it, if the wine is intended to be drunk with cheese). The proverb captures important psychological nuances of choice. The same product - a bottle of wine or a risky medical procedure - may be perceived differently depending on its context, and it is often possible to arrange the context to influence a choice while still maintaining the decision maker's autonomy. The practice of structuring choices is called "choice architecture" in a brilliant and important new book, Nudge, by University of Chicago Distinguished Professors Richard Thaler (Business) and Cass Sunstein (Law). Nudge lays out the groundwork for the science of choice architecture in investing, insurance, health care delivery, and other areas, and argues for a "libertarian paternalism" in which choices are structured to make it more likely that a decision maker will select what is considered the most beneficial option, without impairing the ability to decision makers to select other options. For example, making enrollment in 401(k) plans automatic for new employees, with a form for opting out, is likely to result in greater retirement savings than an opt-in system, without limiting anyone's freedom to choose. Thaler and Sunstein apply the principles of choice architecture to a few problems in health care (How could Medicare part D be improved? How can organ donation rates be increased? Why shouldn't patients be allowed to waive their right to sue for medical negligence in return for cheaper health care?) But the concepts in the book go beyond their specific examples and could prove very useful to practicing clinicians, who, they note, are often in the position of being choice architects for their patients. Their principles of choice architecture (paraphrased by me and focused on physicians helping patients make decisions) are: * Make sure incentives are aligned with desired outcomes * Help patients map outcomes of different alternatives into formats they can understand (a major focus of Medical Decision Making as well) * Arrange default options to favor better health. Pediatricians have done a good job of making vaccination a default option. * Provide timely and relevant feedback about choices and outcomes. A patient seeking to lose weight needs to experience feedback in the form of measurable progress soon enough that they are not discouraged. * Expect error and develop systems to prevent, detect, and minimize it. For example, pill cases and inhalers with dosage counters are simple and valuable ways to reduce the frequent errors people make in remembering medication. Psychological research provides direction as to what kinds of errors are to be expected when people are making decisions. * Structure complex choices to reduce the difficulty of making good decisions. In many ways, that's what medical decision making -- and Medical Decision Making -- is about. I highly recommend Nudge. It's a great read, and has the potential to change the way you think about clinical practice and medical decisions. Innovative, Helpful, Relevant: Opening Shot in Science of Choice This is one of several books on decision-making and choice I have ordered, the first to arrive. I had no idea when I ordered it, based on the title, that the first author was Distinguished Professor of Behavioral Science and Economics as well as the Director of the Center for Decision Research at the University of Chicago, and the second author was Cass Sunstein, one of three lawyers I would not automatically sentence to exile. I really liked this book. It can be read fast or slow. I went fast, if one accepts the authors' propositions at face value, the details are not as necessary. These guys are heavy hitters with a very serious case to present. Although I did not see references to predecessors in this area, such as Herb Simon's "satisficing," the one word I remember from my MPA finished in 1987, the bibliography and notes are excellent and I have the feeling the authors and their research assistants have been thorough with the recent literature (last 15 years). The book opens with a compelling example: a cafeteria manager discovers that she can seriously influence students by how the food is placed, arranged, and displayed, moving an entire student body toward healthier choices (or not). The authors term such a person a "choice architect" and say that like physical architecture, there is no such thing as a "neutral" choice. They go on to discuss the emerging science of choice. I love this, in part because I just published a book, Collective Intelligence: Creating a Prosperous World at Peace (free online at Earth Intelligence Network) intended to force acceptance of Collective Intelligence as a sub-discipline within Cognitive Science. We succeeded. The authors coined the term NUDGE from the ardiously broken down: iNcentives Understand mapping Defaults matter Give Feedback Expect Error Structure complex choices Corney, but no worse than my own United Nations Open-Source Decision-Support Information Network (UNODIN). This is an important book, and the last one, "structure complex choices," is in my view the critical one because we are in an era when our politically-elected leaders know nothing of the real world and are surrounded by advisors that are hacks who are terrified of anyone with a brain gaining access to "their" candidate. No one now running for President of the USA is qualified to date, for this very reason. Not one of them can appoint a transpartisan cabinet, produce a balanced budget, name the ten threats to humanity, list the twelve core policies from agriculture to water, or explain why we have less than six years to create a sustainable model that we can present to Brazil, China, India, Indonesia, Iran, Russia, Venezuela, and Wild Cards like the Congo, which is as big as the USA. Leadership must be redefined, and I believe that the authors have put together a capstone book that is richly qualified to join books such as The leadership of civilization building: Administrative and civilization theory, symbolic dialogue, and citizen skills for the 21st century and Leadership and the New Science: Discovering Order in a Chaotic World and the oldie but goodie by Harlan Cleveland, still a best in class offering, The Knowledge Executive. The authors distinguish between Automatic Mind and Reflective Mind, and I cannot help but tie this to the truly elegant essay The Future of the Internet--And How to Stop It in which the urgency of preserving generative freedom to innovate at the edge of the network is retained. I see such a convergence among all the books I am reading, and am reminded now of Kevin Kelly's unigue Out of Control: The New Biology of Machines, Social Systems, & the Economic World. The problem we face is that government and all other organizations are pyramidal, secretive, selfish, and generally corrupt--and busy trying to "lock down" the appliances, one reason I will never buy an iPhone or an XBox. The authors explore hor people are so unrealistically optemistic about their own capabilities (and I would add, unnecessarily suspect of the other, one reason I recommend to one and all Derek Leebaert's The Fifty-Year Wound: How America's Cold War Victory Has Shaped Our World. I agree with their discussion of the bias toward the status quo and truly appreciated their discussion of social influences (herd mentality). This is different from wisdom of the crowds, smart mobs, etc. They have four chapters on money (savings, investing, credit, and social security), and the bottom line for all four is this: 1) it is possible to structure complex choices so people have freedom but err on the side of wisdom; and b) defaults matter. In the section on health they discuss prescriptions, organ donation, and the environment. Here I would simply note that we know how to cut Medicare prescription costs to 1% of their existing and projected costs, but Congress is both gutless and totally lacking in ethics. I will also note that in another book I reviewed recently, the Chinese have discovered that they are losing TEN PERCENT of the Gross Domestic Product to envrionmentally-related loss of work productivity. This is serious! In the section on Freedom their "libertarian paternalism" shows itself in full force as they discuss school choice, doctors, and marriage. I will not be critical here, other than to note that reforming education is NOT about school choice, it is about changing the entire model to throw out rote learning in neat little rows and testing of memorized regugitation. See Pedagogy of Freedom: Ethics, Democracy, and Civic Courage (Critical Perspectives Series) and Teaching to Transgress: Education as the Practice of Freedom, among others. They end with a dozen "example" nudges that I will not list here, in part because I do like this book, it is an easy read, and it is worthy of your time and money. Do not expect a scholarly tome with lots of pretentious mathematics. This is a good book for real people, and all the more valuable because the science of choice, like services sciences and collective intelligence as a cognitive-socio-economic ideo-cultural techno-demographic force, is going to make a very positive contribution to how we self-organize and how we respond to those who would be Epoch B leaders rather than dictators that take We the People for granted. Buy this book--it might not improve your own decisions, but it will assuredly help you think about what to look for in a leader. See also: The World Cafe: Shaping Our Futures Through Conversations That Matter The elephant in the room. Richard H. Thaler and Cass R. Sunstein are both professors at the University of Chicago and where the Chicago school was once famous for the Milton Friedman doctrine of free markets (look where they've got us today!) Thaler and now his Law professor friend Cass Sunstein have swung the pendulum the other way. Here in Nudge, they argue that totally free markets can lead to disasters precisely because human individuals are not actually very good decision-makers. As Behavioural Economists (Kahneman & Tversky Judgment under Uncertainty: Heuristics and Biases- who credited Thaler as being a key inspiration - and Dan Ariely, whose Predictably Irrational: The Hidden Forces That Shape Our Decisions has become a best seller) argue, we are riddled with little psychological tics in our decision-making processes. We buy things, then suffer remorse. We get confused by choices and often make no choice at all. But where Ariely keeps his discourse in the world of the day to day, Thaler and Sunstein develop an argument that is political - and is bound to cause heated debate. What they argue is that, in the face of our decision-making weaknesses, Governments and Businesses can help "nudge" us in the right direction. The elephant in the room can be benign. They call their viewpoint `libertarian paternalism' and what they argue is that it would be a good thing for some gentle nudging of the citizenry in the right direction. As Thaler said recently in the New York Times: "In light of human limitations, Cass Sunstein and I argue for policies that we call libertarian paternalism. Although the phrase sounds like an oxymoron, we contend that it is often possible to design policies, in both the public and private sector, that make people better off -- as judged by themselves -- without coercion. We oppose bans; instead, we favor nudges." How does a Government do this without imposing laws and edicts. A primary argument is that defaults can be set that counter the tendency by humans to procrastinate or make no decision. One example is the Save More Tomorrow Plan which Thaler developed back in 1996 as an employer sponsored retirement plan for employees. Instead of presenting the details and asking employees to consciously sign-up to increase their savings each time they got a pay rise, the plan presented the details and asked employees to basically check the box if they wished in future to automatically increase their savings as their pay went up. To pre-commit. Such schemes have proved very successful, yet they offer the same free choice, though with a different default. As Thaler argues: "Since it is often impossible for private and public institutions to avoid picking some option as the default, why not pick one that is helpful?" Another form of nudge might be the act of disclosure. Thaler & Sunstein argue, for example that credit card companies should issue annual statements that tell us how much we've spent this year on late fees and interest. Again: we have the complete freedom to use cards as we want, but the additional information may help us reframe our own spending strategies. Or how about stickers on new cars that show how much gasoline each vehicle would burn over the next 5 years under typical usage. Hold that Hummer. These are examples of what the authors call helpful "choice architecture." Nice phrase. The architecture puts our options on more clear display. I must say, I like the thinking here, and it gives credence to agent-based simulation modelling I've carried out whereby small changes can lead to big effects. But this volume is about more than modelling and mere theory. One cannot help but think that the book has been timed to coincide with the meltdown of the present economy. The free market, the totally free market, the authors implicitly argue, needs quite a nudge itself. Rather than seeking highly regulated solutions, the better response might simply be a series of tweaks to the choice architecture that influences our spending, saving, health care and borrowing patterns. The authors present a clear argument and no doubt it will cause heated and lively debate. This book has landed like a rock, right into the centre of the current and somewhat stagnant economic pond. It will definitely cause ripples. Well worth reading. | |||||||||||||
