Misbehaving (Richard H. Thaler)

Don’t let the title fool you, this is a very easy read that provides a glimpse on how we make decisions while doing so with a sense of humor. This was truly a remarkable book that led me to question my own established modus operandi for decision making. Thaler introduces the reader to some psychological insights that reveal the underlying motivation that lead us to making illogical decisions. This book is an excellent read for anyone desiring to become smarter about money and decision making in general. It is also a must read for social scientists, especially those interested in formulating effective public policy.

He introduces concepts such as:

  • The ‘endowment effect’: which lead us to holding on to relationships that no longer work (Friendships, family and romantic) among other bad decisions.
  • ‘Framing’: how credit card companies exploit ‘framing’ to trick consumers into believing they are getting higher value while draining their resources.
  • Building wealth by focusing your bargaining where it counts: how to become smarter with money by paying attention to our decision making behavior related to bargaining, what matters and what doesn’t.
  • Stock market and the value in asymmetry of information: Thaler claims that information is not perfect and thus, the stock price is NOT always right, challenging the notion of classical economics that the price is perfect where demand meets supply. He demonstrates that asymmetry of information can be used to spot big gains.
  • Incentivizing the right amount of risk in organizations: how organizational behaviors block true product and strategy experimentation leading to a culture that embraces the status quo and ends up losing market share.
  • Recognizing psychological distortions in price and value created by emotional attachment.

Thaler also describes his 30 year journey challenging an established community of orthodox economic scholars who refused to acknowledge that normal people don’t make decisions in the way econs do, nor that the world works within the elegant assumptions of economic models. For example: according to classical economic assumptions, people make decisions by optimizing their options (i.e. deciding what to eat on Tuesday based on their overall budget for the month and their choice of meals for the rest of that week) or if they choose A over option B, and B over C, then A has always the greatest value to consumers. This is not always the case, as A may be driven by a situational choice (i.e. a choice to watch a family movie while kids are around but a horror movie may be preferred when alone). These flawed assumptions get built into micro-economic models that get aggregated at the macro level. With this mindset of everyone optimizing their spending and always having consistent choices, there would be no need to design economic policy to incentivize retirement savings because people overall know how much they should be saving and thus, will take matters on their own hands. Assumptions like these are not only flawed but also fuel the belief that poverty at any point in the life cycle is due to character flaws.

Thaler asserts that rational consumers are fictional creatures that inhabit the mind of orthodox economic scholars who refuse to accept our human nature, and thus, leave in a world of purely mathematical models that have little application in the real world.

This was truly a remarkable read that led me to question my own established modus operand for decision making.

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