By Eyal Winter
Many of us tend to think of decision making as a process in which two separate and opposite mechanisms are engaged in a critical struggle, with the emotional and impulsive mechanism within us tempting us to choose the “wrong” thing, while the rational and intellectual mechanism that we also carry inside us slowly and ploddingly promises to lead us eventually to make the right choice. This description, which was also shared by many scientists until several decades ago, is both simplistic and wrong.
Our emotional and intellectual mechanisms work together and sustain each other. Sometimes they cannot be separated at all. In many cases a decision based on emotion or intuition may be much more efficient—and indeed better—than a decision arrived at after thorough and rigorous analysis of all the possible outcomes and implications. A study conducted at the University of California at Santa Barbara several decades ago indicates that in situations in which we are moderately angry, our ability to distinguish between relevant and irrelevant claims in disputed issues is sharpened. Another study that I coauthored reveals that our inclination to become angered grows in situation in which we can benefit from anger. In other words, there is logic in emotion and often emotion in logic.
Social emotions such as anger, empathy, envy and shame shape strategic interactions, as they not only influence the behavior of those who experience them, but also of those who interact with them. This is the reason why even negative emotions can result in a desirable economic behavior. A vengeful attitude can induce cooperation more than self interested and perfect rational attitude. Even when emotional reactions are detrimental to our economic behavior, and they often are, they almost always emerge for a reason. Very often the reason is evolutionary and can offer us guidelines regarding effective remedies.
The new insights that have been obtained about the role of emotions are an outcome of a quiet revolution that has occurred over the past two decades in three important research disciplines: brain sciences, behavioral economics, and game theory. These three together have in recent years expanded our understanding of all aspects related to human behavior. If in the past emotions were studied mainly in psychology, sociology, and philosophy, while rationality was the preserve of economics and game theory, today both the study of rationality and the study of emotions are active research subjects for scholars in all those fields.
Game theory and behavioral economics are rapidly expanding subjects within economics. Over the past two decades thirteen Nobel Prizes in economics were awarded to researchers in those two fields. Their influence is felt well beyond the gates of academia. Nudge co-author Cass R. Sunstein, for example, was the administrator of the White House Office of Information and Regulatory Affairs in US President Barack Obama’s administration. His colleague Richard H. Thaler helped to build the Behavioral Insight Team set up by British Prime Minister David Cameron in his Cabinet Office to serve as an in-house consulting board using behavioral tools. However, behavioral economics focuses primarily on the limitations of our cognitive mind, leaving our emotional mind largely out of the picture. It seeks remedies to biases without determining, or even hypothesizing first, where these biases are coming from. Many of the biases that most of us believe are driven by limited cognitive ability are in fact driven by emotions. Here are two examples: Herding behavior is often believed to be a result of cognitive laziness. Instead of figuring out the right thing to do we choose the simpler option of following the crowd. This is a wrong explanation for this bias. We often follow the crowd because we fear regret. Taking a wrong decision hurts less when everyone else was wrong. After all “sorrow loves company”.
The second example concerns the reluctance to sell assets trading at loss. Most economists attribute this phenomenon to false beliefs in mean reversion. But regret seems to be the main drive here as well. The mental cost of admitting to have made a wrong financial decision can be enormous. But such a decision is stamped as wrong only when the losing asset has been sold. So long as it is held the decision to buy might turn out to be a great decision. Ill economic behavior requires diagnosis before remedies are prescribed. Shooting in the dark for “nudges” cannot be an effective strategy to improve economic behavior. Theoretical and empirical research that puts in the forefront the question of ‘why people behave the way they do’ is urgently needed if the amazing achievements that behavioral economics has already accomplished are to grow further.