How important is irrationality?
Behavioral New World
December 1, 2021
How important is irrationality?
Short, somewhat unsatisfying answer: I don’t know. But here are some of my thoughts. I’ve provided more than the usual number of references to help you delve deeper if you are so inclined.
To start with, let’s ask, “What is irrationality?” Steven Pinker in his recent book Rationality[1] defines rationality as “the ability to use knowledge to attain goals” (p. 36). This definition is more enlightening than the typical dictionary definition (“having reason”) but nonetheless leaves us with the challenge of measuring rationality. Thus, and in defense of my “I don’t know” above, the question of the prevalence and importance of rationality is difficult to answer.
Further, even in cases of reliably documented irrationality, one can ask, “How much does this irrationality ‘cost’ the decision maker?” If your irrational financial decisions have resulted in a loss of $500 over your lifetime, that’s not a big deal for many people; your irrationality is perhaps interesting to observe, but of little consequence. On the other hand, given the “miracle of compound interest,” a seemingly small mistake can have large consequences later (see my April 1, 2021 newsletter).
As a reader of this newsletter, you are aware of the field of behavioral economics (BE) which is, as a first pass, the intersection of economics and psychology. I’ve described Daniel Kahneman as the grandfather of BE. He, working with Amos Tversky (and others), has demonstrated circumstances in which people make irrational choices. For example, based on a description of a woman, people often state that she is more likely to be a feminist and a bank teller, rather than just a bank teller.[2]
So how important is irrationality? In Rationality, Pinker writes, “In social science and the media, the human being is portrayed as a caveman out of time, poised to react to a lion in the grass with a suite of biases, blind spots, fallacies, and illusions…. Yet as a cognitive scientist I cannot accept the cynical view that the human brain is a basket of delusions” (pp. xiii-xiv). My interpretation: He thinks that the question of irrationality has been overblown. Skepticism is reflected in part of the book’s subtitle, Why it (irrationality) seems scarce (emphasis mine).
In contrast, Robert Greene in his book The Laws of Human Nature[3] writes, “The first step toward becoming rational is to understand our fundamental irrationality” (italics in original). My interpretation: something that is fundamental is prevalent and important.
In spite of the seemingly different perspectives of Pinker and Greene, I believe that they are not that far apart. Pinker mentions “ecological rationality”—more on that shortly. Greene believes that, with conscious effort, we can become much more rational. In either case, the importance of irrationality is seen as smaller than if we believe the human brain is awash in irrationality.[4]
Another perspective from which to evaluate the importance of irrationality is called “ecological rationality,” often associated with Gerd Gigerenzer.[5] Rationality is seen as depending on the “social context of judgment and decision” (p. 21). In the pursuit of goals, circumstances matter and thus determine what can be seen to be rational or irrational. Although ecological rationality is more nuanced, I like this quote from a friend of mine: “When the stakes are high, people can be quite rational.”
So where does this leave us? How important is irrationality? Here’s my take. First, irrationality exists and is pervasive (but not necessarily important) in all arenas of our lives. Second, as I suggest in each of my newsletters, awareness of irrationality opens the possibility of taking actions to reduce its consequences.
Third, in the context of behavioral finance (a subset of behavioral economics), I believe that many biases are important, e.g., confirmation bias (see my May 2020 newsletter). Another example: decision making can be influenced by hot versus cold emotional states.[6] FOMO (fear of missing out) is an example of making decisions regarding investments, or just about anything else, in a hot emotional state.
That’s my (current) thinking. What’s your take? Is irrationality important? Important in some circumstances and not others? Can we take actions to reduce the consequences of irrationality? You are welcome to email me at jstuarthowe@hushmail.com.
[1] Rationality: What it is, Why it seems scarce, Why it matters, Viking, 2021.
[2] https://en.wikipedia.org/wiki/Conjunction_fallacy. The choice of “feminist and bank teller” is illogical, which is, arguably, a type of irrationality.
[3] The Laws of Human Nature, Viking, 2018.
[4] A defense (of sorts) of the bank teller irrationality: https://www.psychologytoday.com/us/blog/the-superhuman-mind/201611/linda-the-bank-teller-case-revisited. Also see article cited in footnote 5.
[5] Gigerenzer, G., “How to Make Cognitive Illusions Disappear: Beyond ‘Heuristics and Biases.’” Published in: W. Stroebe & M. Hewstone (Eds.). (1991). European Review of Social Psychology (Vol. 2, pp. 83–115). Chichester: Wiley.
[6] See, for example, http://changingminds.org/explanations/emotions/hot_cold.htm