Predictably Irrational Chapter 1 – The Truth About Relativity

Predictably Irrational byDan Ariely is a fascinating and deeply insightful book that is a pleasure to read and full of gems. It is bursting with interesting and ground breaking experiments that completely debunk many of the assumptions of economics. It will reshape how you view economics and how consumers react in real life, as opposed to in economics textbooks. It is a book I would highly recommend and should be considered a behavioural economics classic. In fact it’s so great that I couldn’t fit all I wanted to say about it into one post (or three) so instead I will summarise my favourite chapters (which is most of them) and highlight the important points they make. What is particularly interesting is that the book is heavily based upon evidence and empirical studies, so no claim is made without being backed up. In fact Ariely does most of the experiments himself so you are really hearing it from the horse’s mouth.

Predictably Irrational by Dan Ariely

Predictably Irrational by Dan Ariely

Ariely begins with a story of how he was browsing the internet and came across an offer from The Economist magazine.

  • Option 1: online subscription to the magazine’s website for $59
  • Option 2: print subscription for $125
  • Option 3: online and print subscription for $125

He uses this as an example of relativity. It is near impossible to estimate the value of an item by itself, so we instead compare it to something else. In this case option three seems like the best option when compared to the others. It’s almost as though we are getting the online subscription for free. Ariely tested this on 100 students and found that 84% chose the third option and only 16% choose the online subscription even though they could get the same articles at half the price (No one choose the print only option leading Ariely to call it the “decoy” option). However he later repeated the experiment by removing the 3rd option leaving only the choice between an online or a print option. In this case 68% choose the online and only 32% choose the print subscription.

Another example of relativity is a salesman who places three TV’s together costing $690, $850 and $1,450. Most people would go for the middle option, because it is relativity the best mix of cost and luxury. The salesman knows this and has deliberatively placed an expensive option that he knows won’t sell next to the TV he does want to sell. Unlike traditional goods, this TV’s purpose is not to be sold, but rather to make everything else look cheap in comparison. Another example is that of Williams-Sonoma who first tried to sell home bread bakeries for $250. Unfortunately sales were poor. At this point some might conclude that the market didn’t want to buy a home bread bakery and that the company should give up and try something else. Instead, they made a bigger version that cost 50% more and placed it beside the original. Now the original bread bakery was a relatively better option and sales of the original rose (consumers reasoned that if they were going to buy a home bread bakery, they would buy the smaller one). The market is not simply decided by rational consumers, they are open to manipulation and nudges.

The key point Ariely makes about relativity is that it’s how we make choices. We compare goods that are similar and comparable but not does that aren’t. He gives a further example of a real estate agent offering to sell you three houses. The first is a contemporary house, while the second one is a colonial house whose roof needs a repair (and is therefore cheaper) and the third is a colonial house that is in good condition. Ariely argues that we would choose the colonial in good condition for an irrational, but predictable reason. We have nothing to compare the contemporary house with, so it gets pushed to the side. On the other hand we do know that the colonial with a good roof is better than the other one, so it is relatively the better pick.

Which dark orange dot is bigger? You might think the one on the left is, but they're actually the same size. The use of surrounding dots makes one relatively bigger and the other relatively smaller

Which dark orange dot is bigger? You might think the one on the left is, but they’re actually the same size. The use of surrounding dots makes one relatively bigger and the other relatively smaller

Relativity doesn’t just have to do with consumer behaviour, it also affects who we date and even marry. To examine this, Ariely conducted a study where he took (with their permission) photos of MIT students. He then got other students to choose between two photos and choose who was better looking. However, Ariely added a third photo which was a photo shopped version of one the other photos. This photo shopped version made the person look worse (this would be the decoy to make the original look better). So people were asked to choose between A, A- and B. In 75% of cases people choose A, as in the original photo of the student who had a decoy made of them. So relativity even affects who were are dating which is why Ariely recommends that you bring a friend with you if you trying to impress a girl, just make sure your friend looks similar but less attractive than you.

Another example of predictable irrational action based on relativity. In both options savings of $7 exist, but in the first option it is relatively better value

Another example of predictable irrational action based on relativity. In both options savings of $7 exist, but in the first option it is relatively better value

Relativity links into inequality and happiness. It has been well documented that although the average American is far wealthier than their parents or grandparents, they are not necessarily happier. As people get older they tend to get richer (through promotion and seniority benefits) but not necessarily happier. Why is this? The answer is relative. Despite the fact that the average American would seem fabulously wealthy compared to the average Mexican, they do not feel wealthy. This is because they don’t compare themselves to the average Mexican, but rather to people they live and work with. So if you earn $100,000 a year, but you work with people who earn $150,000 then you feel relatively poor. This is at the heart of problems in high inequality countries; people compare themselves to the very wealthy, which makes them seem relatively poorer.

Predictably Irrational is all about how people really make decisions, not how they should behave according to neo-classical view of rational actors. We cannot compute decisions in a vacuum, rather we need  to compare it and see how it relatively stands. This series will discuss how people act in the real world, as opposed to in economic textbooks.


Filed under Books, Economics

13 responses to “Predictably Irrational Chapter 1 – The Truth About Relativity

  1. This is truly brilliant! An excellent summary from what sounds like an equally excellent book. Every word rings true. Looking forward to the next parts

  2. ittecon

    Wonderful book. I am happy to see you summarising it. I haven’t read his latest offering, “The Upside of Irrationality” yet.

  3. Pingback: Predictably Irrational Chapter 1 – The Truth About Relativity « Economics @ ITT

  4. The entire premise of the book sounds enormously wrong.

    Please don’t pretend to speak for all of humanity in these assumptions of irrationality. Perhaps some morons are duped by marketing tricks like the subscription options you listed at the beginning of your post, but like any other intelligent adult I am not.

    Humans are the only species which are not only imbued with reason but who must use it to survive. Perhaps there are many people who make irrational decisions, but it is certainly not an accurate representation of humanity. No example that you listed of “normal” irrational behavior would ever have tricked me, and I would find someone pretty stupid for falling for any of them.

    When offered a number of choices, any adult with half a functioning brain cell doesn’t just intuitively compare the items – they break down the value of the item as a ratio to the price of the item. Not only that, but they consider the value of the price ***as it relates to their needs and interests***. A print subscription is very useful to those without an internet connection. For those like me who can’t stand wasting paper to read a print copy of a publication just to throw the paper away, it’s annoying and not valuable.

    Just because there are some idiots out there doesn’t mean we get to throw our understanding of human nature out the window.

    • I agree that humans are intelligent, but we are not perfect. We have our flaws and it is best if we recognise these. If we assume that we are completely rational we are assuming abilities we simply do not have. Ariely backed up all of his claims by conducting experiments among his students in MIT (one of the top universities in the world so hardly a bunch of “idiots”). In all cases the large majority were shown to be acting irrationally. You may be more rational than they were, but that merely makes you the exception.

    • Actually, Tiffany267, Robert is too nice in his reply; your sarcasm is misplaced and you don’t understand this post at all, clearly. Your reasoning is a prime example of the irrationality that Prof. Arielly discusses. By examining your own experience and projecting that experience on other people, your are generalizing about humanity from a sample of size N = 1, then, reasoning in good “post hoc ergo propter hoc” style, you cite anecdote to support your conclusion. You have, in effect, “begged the question”, i. e., assumed as premise the conclusion for which you argue. In addition, you seem to misunderstand the nature of the scientific enterprise by calling this conclusion of his research – that humans determine value of one object relative to the value of another object, ultimately to each individual (I may value an automatic transmission in a car differently from you due to personal preferences we have) – its premise. This conclusion began its “life” as a hypothesis, which was then stated in way so that its truth could be confirmed or denied by experiments. No particular experiment could “prove” this hypothesis to be true, but, as the number of results of a broad array of experiments that were consistent with this hypothesis and consistent with a shrinking number of alternative hypotheses (experimental results were produced that were inconsistent with such alternatives, but, not with Arielly’s), this hypothesis was affirmed and its claim to veracity strengthened. The exact nature of “scientific truth” and scientific method continues to be debated by philosophers and scientists and there are many subtleties to this notion, but, this account is generally well received in the scientific community as broadly accurate. Ironically, your remarks probably reflect the ideas (which became hypotheses) of many researchers in this field, but, they didn’t assume that they were true and stop there. In true scientific spirit, they decided to investigate them experimentally. Arielly is not the only guy doing this work; most of his papers have coauthors and reference other work in the field.

      • Hello Charles. Thanks for your thoughtful reply. However, paragraphs would have made reading your reply much easier.

        I’m afraid that you are sorely mistaken in believing that my statement – that I am certainly not an irrational being and would not make such stupid irrational decisions – to be a logical proof that all human beings are therefore rational beings. It is not a logical proof, and so it’s the classic strawman technique to attack me as though that were my assertion.

        Although it is easy to show that humans are all rational by nature, I will reserve that argument for an audience who hates humanity less than you do. I don’t like wasting my breath (or in this case, my typing).

        Now, while we’re talking about logic, I’m afraid it’s you that is confused about premises and conclusions.

        It is absolutely obvious to anyone with half a functioning brain cell that the “researchers” involved in this pseudoscience already believe that humanity is by nature irrational. This humanity-loathing attitude is apparent in the way they created leading questions hoping to pull the wool over people’s eyes and then call the people irrational.

        The researcher’s PREMISE (that human beings are by natural irrational) is unacceptable. They then attempt to call their work “science” by denying their premises and calling them hypotheses, so their “conclusion” isn’t really a conclusion because there isn’t really any science.

        A neurological examination of the subjects’ brains would have been a great scientific investigation into the nature of human thought.

        A pathetic highschool level set of leading questions is NOT SCIENCE. There is no conclusion because they have biased the so-called research.

        Let me give you an analogy:

        Suppose I believed axiomatically and a-priori that Muslims are less knowledgeable than Christians. I then want to spread these tribalistic notions to create hatred for my secret enemy. So I call my premise a hypothesis, and I conduct a few surveys in the name of science. I then write questions about the Bible, find that Christians answer them more accurately, and then declare that Christians are obviously more knowledgeable than Muslims.

        It’s. Not. Science.

        But even more disgusting than calling irrational nonsense science is the idea of pronouncing irrationality to be the norm!

        My words to the researchers: So you think that humanity is irrational? Speak for yourself.

        • I didn’t say that your argument was intended to be a “logical proof” of anything. All I said, essentially, was that you make the error which you accuse the author of making. He didn’t “assume” that people are irrational; he “hypothesized” that they are and conducted experiments to attempt to investigate (confirm or disconfirm) this hypothesis. According to the scientific community, his research, along with the research of many other in psychology and behavioral economics, this research is science. It satisfies the criteria of experimentation accepted universally by that community. Your analogy isn’t even close to what Arielly and his colleagues are doing (although i would agree that such practice would represent bogus research, and, I agree that there is too much of that in the political arena). Read the book. Or, at least, read some papers. Please, educate yourself on the subject. Then, discuss their methods.

          I realize that the preceding paragraph is an appeal to authority as a basis for truth. Nevertheless, the scientific community is a community of values, practices and standards that they share, practice and to which they hold each other accountable for adherence. Without those shared values, practices and standards, how could science be possible?

          As to the “highschool” nature of the questions that Arielly asked, what questions would you suggest? All people, from Einstein to preschoolers, make such choices as to which television to buy, which toy to play with, which man or woman is more attractive or would make a better partner. Many businesses employ “pricing scientists”. Their job is to identify their company’s value proposition and how it is manifested in their products or services. No product or service has intrinsic economic value. It’s value depends on how we evaluate it, and we evaluate only in comparison to the values of economic alternatives. This describes other choice situations, too, for example, about which shoes to wear, who to have lunch with, etc. The factors in determining the choices we make aren’t necessarily economic, but, are necessarily relative to alternatives. Economists refer to rejecting the available alternatives as the “opportunity cost” of choosing the alternative we did.

          Suppose we did know the neurological correlates to each individual act or thought and that this relationship is a one-to-one function (already shown to be highly unlikely). So what? This knowledge and understanding would say everything about how brain function is related to body function, speech and perception, for example, but, it would say nothing about our “rationality” as a species.

          The case for humans as “rational beings” is far from easy and certainly beyond logical proof. Philosophers have wrestled with this topic for millenia (since Socrates in the West) and every case for rationality as an essential and dominant property of humanity has been found sorely wanting. I challenge you to define “rational’ in a scientifically testable way. IQ is not that way, nor is it intended to measure rationality. Even defining it a way that serves as a basis for reasoned discussion is challenging.

          For example, a core problem for the ethicist is, “Why do people do things that they know to be wrong?” A fundamental problem with governance is that the governors and the governed suffer cognitive dissonance, the simultaneous acceptance of contradictory beliefs. If, by rational, you mean “logical”, then the human mind is limited, indeed, in its capacity to reason. Formal languages are spare and narrow in scope. A formal language sufficiently rich to express a subject as limited as elementary number theory cannot be both consistent and complete. In other words, in such languages (“logics” as it were), there are statements which are true, but, which cannot be proven to be true. It is also the case that even when we introduce the words “all” and “some” into the object language, there is no automatic procedure for determining its truth.

  5. Remember the scene in the film, “A Beautiful Mind,” where John Nash is sitting in a bar with four friends, when, in walk five girls of varying attractiveness? At this moment, he realizes that if he and all of his buddies pursue the most attractive blonde, some will go home alone, that night, but, if they each accept their own relative attractiveness, they could all go home with a partner. This insight is closely related to Arielly’s work (the psychology of Nash Equilibrium models is rooted in the local relativity of value – did I actually write that?). In a Nash equilibrium, all of the players make the best reply to the strategy choices of the other players. Their choices depend on their evaluation of each alternative outcome relative to the others. Interesting stuff; thanks for the recap.

  6. Guest

    You made a mistake in saying he removed the 3rd option for the subscriptions – he removed the 2nd option [for print only, which no one had even chosen], and showed how people were then much less likely to choose the previously most popular 3rd option and instead preferred the 1st!!!

  7. Pingback: Pricing Quality (Designs) - it's all about Psychology - Make it LEO

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