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Why People Believe Weird Things About Money

January 2008

Would you rather earn $50,000 a year while other people make $25,000, or would you rather earn $100,000 a year while other people get $250,000? Assume for the moment that prices of goods and services will stay the same.

Surprisingly — stunningly, in fact — research shows that the majority of people select the first option; they would rather make twice as much as others even if that meant earning half as much as they could otherwise have. How irrational is that?

This result is one among thousands of experiments in behavioral economics, neuroeconomics and evolutionary economics conclusively demonstrating that we are every bit as irrational when it comes to money as we are in most other aspects of our lives. In this case, relative social ranking trumps absolute financial status. Here’s a related thought experiment. Would you rather be A or B?

A is waiting in line at a movie theater. When he gets to the ticket window, he is told that as he is the 100,000th customer of the theater, he has just won $100.

B is waiting in line at a different theater. The man in front of him wins $1,000 for being the 1-millionth customer of the theater. Mr. B wins $150.

Amazingly, most people said that they would prefer to be A. In other words, they would rather forgo $50 in order to alleviate the feeling of regret that comes with not winning the thousand bucks. Essentially, they were willing to pay $50 for regret therapy.

Regret falls under a psychological effect known as loss aversion. Research shows that before we risk an investment, we need to feel assured that the potential gain is twice what the possible loss might be because a loss feels twice as bad as a gain feels good. That’s weird and irrational, but it’s the way it is.

Human as it sounds, loss aversion appears to be a trait we’ve inherited genetically because it is found in other primates, such as capuchin monkeys. In a 2006 experiment, these small primates were given 12 tokens that they were allowed to trade with the experimenters for either apple slices or grapes. In a preliminary trial, the monkeys were given the opportunity to trade tokens with one experimenter for a grape and with another experimenter for apple slices. One capuchin monkey in the experiment, for example, traded seven tokens for grapes and five tokens for apple slices. A baseline like this was established for each monkey so that the scientists knew each monkey’s preferences.

The experimenters then changed the conditions. In a second trial, the monkeys were given additional tokens to trade for food, only to discover that the price of one of the food items had doubled. According to the law of supply and demand, the monkeys should now purchase more of the relatively cheap food and less of the relatively expensive food, and that is precisely what they did. So far, so rational. But in another trial in which the experimental conditions were manipulated in such a way that the monkeys had a choice of a 50% chance of a bonus or a 50% chance of a loss, the monkeys were twice as averse to the loss as they were motivated by the gain.

Remarkable! Monkeys show the same sensitivity to changes in supply and demand and prices as people do, as well as displaying one of the most powerful effects in all of human behavior: loss aversion. It is extremely unlikely that this common trait would have evolved independently and in parallel between multiple primate species at different times and different places around the world. Instead, there is an early evolutionary origin for such preferences and biases, and these traits evolved in a common ancestor to monkeys, apes and humans and was then passed down through the generations.

If there are behavioral analogies between humans and other primates, the underlying brain mechanism driving the choice preferences most certainly dates back to a common ancestor more than 10 million years ago. Think about that: Millions of years ago, the psychology of relative social ranking, supply and demand and economic loss aversion evolved in the earliest primate traders.

This research goes a long way toward debunking one of the biggest myths in all of psychology and economics, known as “Homo economicus.” This is the theory that “economic man” is rational, self-maximizing and efficient in making choices. But why should this be so? Given what we now know about how irrational and emotional people are in all other aspects of life, why would we suddenly become rational and logical when shopping or investing?

Consider one more experimental example to prove the point: the ultimatum game. You are given $100 to split between yourself and your game partner. Whatever division of the money you propose, if your partner accepts it, you each get to keep your share. If, however, your partner rejects it, neither of you gets any money.

How much should you offer? Why not suggest a $90-$10 split? If your game partner is a rational, self-interested money-maximizer — the very embodiment of Homo economicus — he isn’t going to turn down a free 10 bucks, is he? He is. Research shows that proposals that offer much less than a $70-$30 split are usually rejected.

Why? Because they aren’t fair. Says who? Says the moral emotion of “reciprocal altruism,” which evolved over the Paleolithic eons to demand fairness on the part of our potential exchange partners. “I’ll scratch your back if you’ll scratch mine” only works if I know you will respond with something approaching parity. The moral sense of fairness is hard-wired into our brains and is an emotion shared by most people and primates tested for it, including people from non-Western cultures and those living close to how our Paleolithic ancestors lived.

When it comes to money, as in most other aspects of life, reason and rationality are trumped by emotions and feelings.

This opinion editorial was originally published in the Los Angeles Times.

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67 Comments to “Why People Believe Weird Things About Money”

  1. Chistopher Says:

    Ellis was right, we’re both rational and irrational, often times in the same breath… does anyone know of a good credit counseling service? ;-)

  2. John Rosen Says:

    Michael:

    Seemingly – or actually – irrational behavior utterly bedevils my clients, who are all marketing managers. Many of these seemingly irrational actions are driven by the specific occasion. Examples: Why do millions of consumers drive past 20, 30, or 40 traditional supermarkets in order to spend MORE money on necessities at Whole Foods Market? Because, on that day, those consumers were looking for a recreational experience – browsing through a supermarket that openly bills itself as theater – rather than impatiently working their way quickly through a traditional grocery store. Research has shown that the very same people shop at Whole Foods once per month (for recreation) and at their local supermarket twice a week (for speed, convenience, and price reasons, that is, when they have a chore, shopping, to complete and are impatient to get it over with.) Why do people rush out to refinance their mortgages, paying tons in fees and points, every time interest rates tick down a little bit, but put off for YEARS having a discussion with a financial planner about preparing for retirement? Because these people are not driven by the financial calculation per se, but by two separate emotional desires: the desire, on the one hand to “get a deal” on the interest rate move and the fear, on the other hand, of the future, or even of discussing retirement. The retirement planning effort only kicks in after a triggering event, such as birth of a child, loss of a job, etc. Why does the same beer drinker sometimes buy Budweiser and sometimes a very expensive import? Because sometimes he’s drinking by himself or with a neighbor and other times he’s drinking with a hot date or his boss and desires to impress her.

    In both cases, marketers make a big mistake if they tailor their marketing to the person, rather than the occasion.

    So, a question for you: has any of your work ever focused on this issue of how people so much differently depending on the occasion, or the situation?

    John

  3. Stopwatch Marketing Blog » Another Fine Book Says:

    [...] The short answer, according to Shermer, is that we’ve all been programmed that way over thousands of years of years, having made the leap from hunter-gatherers to consumer-traders. Shermer amasses a huge amount of data and cites tons of research in the fields of biology, psychology, and a relatively new field called neuroeconomics. One great example: we are all social primates, having evolved from apes. Scientists have actually experimented with other primates, training them to “buy” food with pebbles. Once the apes have been fully trained and display consistent purchase behavior (that is, once the price has been set) the scientist increase the money supply (adding more pebbles). The nominal price of the food shoots up precisely as human economic models, based on decades of research into monetary policy would predict. Faced with “easy money,” monkeys, it seems, bid up the price of bananas exactly as humans do the price of homes. Let’s hope the monkeys don’t face a sub-prime lending crisis. [...]

  4. DC Says:

    Michael,

    the funny thing is that while what you write about contradicts standard economics, it is fully compatible with so-called “Austrian Economics”, which makes no general rationality assumption, but grants that humans simply act in accordance with their preferences at the moment of the action in question.

    There is no need for these preferences to be objectively rational – all that is required that the individual in question believes that the action he wants to engage in leaves him better off than the alternatives. This ‘better off’ can include the moral satisfaction of having gotten back at the unfair dealer, even IF that means taking a monetary loss.

    Homo economicus is a myth, and just as perfect competition and price equilibrium, it has no relationship with reality.

  5. Dr.Q Says:

    I myself rather spend more
    on healthier food.

  6. Skeptigator Says:

    I don’t know the specifics of the studies that are cited from which the examples regarding the “What would you rather earn” or the Movie Theatre examples. But the Movie theater example, does a great job illustrating the irrationality of loss aversion.

    I’m not totally convinced that the first example is all that great. I know it says “Assume for the moment that prices of goods and services will stay the same” but my brain still tells me “in reality” if I make less than half what everyone else makes that my buying power is diminished.

    I wonder how they controlled for the fact that the first example just doesn’t pass the “smell” test and might introduce an unaccounted for variable in their study.

  7. Andrew Says:

    RE: The ultimate game scenario.

    How do you account for information held by both parties in this decision making process? In other words, why is it a “moral sense of fairness” driving the decision vs. an informed strategy to leverage the “all or nothing outcome” designated in the rules, allowing the game partner (the receiver, not the offerer) to hold out for a higher payout?

    If the receiving party did not know what the end result of the monetary split, any number would be acceptable as that would make that person better off. If the receiving party knew that the threat of a nothing outcome could improve his/her financial position, the rational thing would be to hold out for more money.

  8. Alex Says:

    Correct me if I’m wrong, but isn’t the whole point of evolution and survival of the fittest basically about trying to pass on your genes as efficiently as possible, i.e. copulating with as many females as you can (in case you are a male, of course)?

    Let me make this clearer:

    Assumption/Premise 1: You are a male.
    Assumption/Premise 2: A female will rather copulate with the fittest male.
    Assumption/Premise 3: The fittest male = the most powerful male = the richest male.

    Scenario: Would you rather earn $50,000 a year while (all) other males make $25,000, in which case you are the fittest male, and hence get all the girls? Or would you rather earn $100,000 a year while (all) other males get $250,000, in which case you are the weakest male, and hence never get laid?

    Surprisingly — stunningly, in fact — my intuition tells me that the majority of males will select the first option; they would rather make twice as much as other males even if that meant earning half as much as they could otherwise have and getting twice as many girls – because that would help their genes. How rational is that?

    By the way, the tone of this letter is meant for comedic purposes only.

  9. Richard Says:

    I think DC and Skeptigator touched on the crux of this conundrum, and Alex hit it on the head: Wealth is relative.
    Would you rather be stinking rich, or the richest man in a homogenously poorer world? A small frog in a big, wealthy pond, or big frog in Podunk Pond?
    This thinking also seems to be the flip side of reciprocal altruism — not egoism, but non-reciprocal altruism.
    Finally, I recall an experiment cited in my Psychology 101 textbook that found that a flock of ducks would always go to the larger of two piles of food, even though there was too much food in either pile for the ducks to completely consume. Does this run a-fowl of the above findings?

  10. Robin Collins Says:

    I have to agree with Skeptigator above on the income example. It depends a bit on how ‘twice as much as others’ is determined. An individual would likely assume that making twice the average A is more sensible than half the average B even if A is smaller than B…. IF… all things being equal the $50,000 may actually have less buying power than the one making $100,000. It depends what inflation does to the equation. There may be an element of fairness or suspicion built into the responses too; and it may have less to do with making more than the Joneses.

    RC

  11. David Leigh Says:

    I struggle to understand why you apparently think that “reciprocal altruism” is somehow irrational. Looked at properly it is nothing BUT rational.

    Imagine that the “ultimatum game” is a negotiated settlement rather than an ultimatum. If you offer me $90-$10 split, justifying it with the argument that I would receive $10 more than nothing, I would respond that by the same logic I — not you — should receive the $90 share, because I have the power to deny you any money at all. The point at which both of us has maximized our earnings against the risk of veto is a $50-$50 split. We both have equal power over the transaction, so we share equally in the reward. IOW, fairness.

    With the ultimatum game, the risks to be balanced are exactly the same. I have the power of veto. Furthermore, I only gained that power when you gave up yours by choosing me as your partner in the game. But veto power alone is completely worthless. It only has value if I ALSO have THE WILLINGNESS TO USE IT. Given that I have that power and am willing to use it, the entire negotiated settlement can be taken as “read”. If you want to maximize your income, you need to be fair, otherwise few people will do business with you.

    What you call “irrational” is nothing of the sort. It is a long-term strategy whereby I give up a pittance in THIS transaction in order to maximize my return on FUTURE transactions. The refusal doesn’t cost me much, because the profit offered was meager to begin with. But it costs you a lot. (Five failed transactions of this type, and I would lose $50 to your $450. ONE fair transaction recoups all my losses and barely touches yours. It pays you to be fair from the start.)

    As we’re both human, and you’re wired the same way as I, we don’t need to discuss this in advance. If you’re rational, we can take it as a given that the negotiation still exists, but is implied. And if you’re thick enough to be surprised by my “irrationality”, then you’ll change your practice, if not your tune, after a few failed attempts at your “rational” strategy.

  12. Richard W. Morris, J.D., Ph.D. Says:

    I found the same results when talking with groups of children and when teaching an introduction to economics course in college. I did not understand it then, and have some difficulty now understaing this.

  13. Edward T. Babinski Says:

    What about the argument in terms of religious psychology?

    Would you rather believe that people who believed as you did were the only ones going to heaven even if lots of others were not going to heaven? Or would you accept an eternity in a slightly less beautific heaven for yourself if it mean that everyone would eventually get to go to heaven? The prior view seems to be the dominant one among the conservatively religious.

    For instance, ever notice how conservative religious believers love the idea of themselves and their families going to heaven, but often reject universalism? (Not all believers reject universalism of course.) Perhaps one reason (there’s more than one reason of course) they reject universalism is because heaven wouldn’t quite be “heaven” to such people unless they also knew that God was denying heaven to a lot of others who lay outside the circle so to speak. For instance there’s a shadow side we cast or project upon people who are not in our group. And having cast or projected that shadow elsewhere it makes us feel less shadowy ourselves, more “chosen.”

  14. Edward T. Babinski Says:

    EDITED VERSION of my reply

    But what about the argument in terms of understanding conservative religious psychology?

    If a conservative religious person had to choose between

    1) Everyone who believes as they did were going to heaven while lots of others were never going to heaven

    or

    2) Accept an eternity in a slightly less beautific heaven for themselves so long as it meant literally everyone would eventually get to go to heaven

    Which do you think a person would choose?

    The prior view seems to be the dominant one among the conservatively religious.

    For instance, ever notice how conservative religious believers love the idea of themselves and their families going to heaven, but often reject universalism? (Not all believers reject universalism of course.) Perhaps one reason (there’s more than one reason of course) they reject universalism is because heaven wouldn’t quite be “heaven” to such people unless they also knew that God was denying heaven to a lot of others who lay outside the circle so to speak. For instance there’s a shadow side we cast or project upon people who are not in our group. And having cast or projected that shadow elsewhere it makes us feel less shadowy ourselves, more “chosen.”

  15. skeptic griggsy Says:

    Indeed so,Babinski! How many people actually consider the traditional problem of Hell- all that eternal torment?
    This subject needs investigation! Can Shermer do it?
    Some allow universalim or at least the notion that Hell is just separation from divinity.

  16. Kimpatsu Says:

    Michael,
    I think there’s another issue regarding your opening paragraph that needs to be considered: sociology. (I know that’s a boogey word, but bear with me).
    basically, respondents to the trial didn’t look at the question as whether they wanted to earn $50K or $100K pa; they looked at what their neighbours were earning, because that would determine social status. He who earns most wins, and becomes the alpha male of the neighbourhood. If everyone else around you is earning more, but they are all earning the same and you are the only one earning less (which is implied by your thought experiment), it isn’t just a question of prices remaining the same; it is a question of whether you can afford to buy more ostentatious bling than your neighbours or less, because it is by how much useless dreck you can afford to purchase by which they judge you. IOW, even though you are earning less in absolute terms, you have more social currency, and that truly is a price above rubies.

  17. Bill Henry Says:

    A study was done that valued trees. A developer would offer to pay neighbours to remove more trees from his site than allowed. Neghbours valued them at $1,000′s that they needed in compensation.

    Nieghbours were told developer could save trees. What were they worth to the neighbours? They offer to pay $1′s.

    the difference was 1000:1 give or take a bit. man is an ugly greedy piece of work.

  18. Frankee Says:

    Earn $50,000 instead of $25,000 as everyone else does or earn $100,000 when everyone else earns $250,000?

    This article is completely wrong thinking that Option #1 isn’t the best preference. If you have any idea about economics at all or finances Option #1 is DEFINITELY better. Money and it’s value is only in relation to supply v demand. So, earning double everyone else makes you TWICE AS RICH as everyone. Earning $150,000 less makes you moor poor. The actual number is irrelevant.

    In saying all this, that is not their point but this example they use is in-appropriate.

  19. Xynyx Says:

    Given the market impact of the universe of incomes expressed in the test, the $50k in a world of $25k earners is vastly superior to the $100k in a world of $250k earners. The prices of goods do not stay fixed, as some of the testing mentioned in the article illustrates.

    Since the cost of goods will vary depending on the absolute availability of cash, the test can be normalized by removing the actual numeric value proposed in the test. The comparison can more properly be reduced by offering the subject the opportunity to make 100% more than or 60% less than everyone else in the world. The choice is simple.

    It may be that people don’t actually consider that factor… logically… but it is possible that one’s “gut” is actually capable of factoring in such things.

  20. Xynyx Says:

    Ha! What a coincidence! Frankee’s comment was not present when I typed mine… how interesting that we would make the same point at about the same time!

  21. Kenn Says:

    I see this principle every time I drive:

    “Would you prefer to avoid potential property damage of health risks while avoiding imminent traffic tickets? Or would you prefer to be first in a line of traffic?”

    Most of us are willing to risk danger in exchange for sheer satisfaction of beating the other guy off the line at the traffic light.

  22. Douglaslee Says:

    Gas price studies have shown people willing to drive a ablock or more for the $2.66.9 gal. rather than $2.67 gal. and with a ten gallon tank, they saved a penny, the same penny that’s not worth bending over to pick up, but worth burning five times it’s worth in [I think you burn a penny's worth of gas at 3.00 gal. just starting the car] gas to get to the station offering the tenth of a cent savings. Haven’t seen a study where if the price was $2.66.6, most would go for the 2.70, even though they could save three times as much as the first study.

  23. A Second Hand Conjecture » Irrational Actors Says:

    [...] Michael Shermer examines the bizarre behavior of people in situations where they are forced to choose between relative money awards in social contexts. Remarkably, people will consistently choose less money if it negatively affects their perception of their economic relationship to others.

  24. Paul Murray Says:

    There is nothing irrational whatever about preferring to make 50k rather than 100k, if it means you are making more than anyone else. Women mate with the man with the biggest spear, the most goats. There’s no limit above which it no longer matters.

    In any case, a world in which everyone is on 250k is a world where the money supply is relatively inflated and therefore worth less. Being rich really is a matter of being richer than other people, which puts paid to the notion that everyone can be rich.

  25. Christoffel Says:

    Hi Michael:
    Having read and considered your article and all the subsequent comments, I feel justified in summarising the consensus thus: Primates (and indeed all living things) when faced with a choice, act in a manner which they perceive to be in their best interest, no matter how “wrong” or “illogical” their choice may seem to an outsider. So the research actually proved nothing — we knew that all along, didn’t we?

  26. jim newman Says:

    I think it is interesting that those who disagree with the first example deny the assumption that costs and services are equal. That in spite of the ground rules the reader rewrites the experimental premises on the basis that it contradicts practical or known experiences and premises. In short the reader knows the assumptions can’t be true–their understanding of economics prevents them from accepting the possibility of the premise and shortcuts and the imagination necessary to believe the test, though they can follow it metaphorically by denying its validity.

    In this case of denying the assumptions the readers assume that money doesn’t have an absolute value but is instead a signifier of value within the context of the economy of money and thus in its purchase power. That is, they understand that one person making twice as much as the rest is richer because money is not in and of itself valuable but is rather representative of the relative choices of value or ability to buy within a specific economy–they are used to seeing money fluctuations and thus money as symbolic or metaphorical rather than an absolute marker of wealth,

    These readers are too sophisticated for the test. What if instead you could not assume a surplus of money–or more importantly the well being that money buys.

    What if we made the example more immediate, more tangible. What if we used calories instead and made the highest value that of near survival–would it be better to have 2,000 calories a day if everyone is getting 1,000 or would it be better to have 4,000 calories a day when everyone gets 3,000.

    Assuming it requires 2,500 calories a day to survive and you know and feel that the first choice still means agony and ultimately death while the latter might introduce long term health problems which you may or may not know or feel but choice 2 nevertheless avoids starvation–i would guess that most would desire death by obesity over the long term than death by starving in the short term and would have an immediate feel for that once they understand the fixed equivalence of calories to energy to level of metabolic need for life.

    What if we made the example one of mates (leading to children). Would you rather have sex with 10 mates if everyone else is having 5 encounters or would you rather have sex with 25 mates when everyone else has 50 encounters. Supposedly evolution would dictate an immediate response of 25 since that seems like a sufficiency of mates and it would get more children out there compared to the assumed norm of less than that in the reader’s real world experience (few of us have 5 mates much less 10 or 25) but in fact evolutionarily you would want the first choice because then you are outbreeding the rest of the group and actually have a better rate of survival.

    There is no set standard of mate encounters that clearly defines sufficient success.

    Generally, we see others as a measure of our own success. Keeping up with the Joneses is a two way street–on the one hand it makes us pay too much attention to the wealth of others and its possible superficiality and on the other hand it actually signifies the level of wealth that you have. If you can buy the new car, TV, vacation your neighbor had just bought then you know you can compete with them economically even if you don’t need to now. If economic stress occurs then you feel/know you are equally able to handle it–your surplus now could be a deficit later based on uncontrolled outside factors such as severe inflation, recession, war, etc.

    In this sense competition allows people to assess their relative ability to survive compared to others. In times of plenty this seems pointless as how much of a surplus is really necessary. But if you see this mental trading off as primitive or even emotive group intelligence then tracking other’s wealth compared to yours is a rather far reaching means of assuring self survival in the face of future unknown changes in a group.

    Paying attention to the Jonses is thus an affirmation that all of us are close enough to each other that we can assess our own needs to those of others. If my neighbor has so much more than I then I must be missing something. Why would they have more. After I see that my neighbor is not a crank or crackpot then I must seriously wonder if the new iphone and fast internet service, car, vacation, etc will make my life better too. But if I am not sure then the safest bet is to follow my fellow neighbor and if I don’t I will wonder if I should have or compensate by saying things like money isn’t everything, power corrupts, balance in all things, or spirituality is more important than material goods.

    The cognitive dissonance arises from the uncertainty of knowing what is sufficient in the face of the future and the immediate witnessing of a neighbor raising the bar of what might be necessary. Either we compensate by denying the need or we follow. If I am independently inclined may be able to say no to the neighbor’s stuff but I am then assuming special and privileged knowledge on my part which plays into issues of confidence, ego,willpower, etc.

    This ties into the notion of fair play. If we didn’t ultimately feel and know that we are equal and prone to the desire of fair play then we would have no notion of justice, equality, mutual respect and so forth. Fair play becomes an enlightened perspective of competition. We seek a level playing field because we don’t truly trust ourselves to know what we need in all circumstances and our individual abilities to meet that need.

    We in fact assume that there will be inequalities and seek to compensate to ensure better possible overall success to all individuals rather than to allow power to play excessively in any specific individual. Implicitly we know that we have a better chance of surviving as individuals if the group succeeds than if it doesn’t. If we don’t that is a kind of sociopathy or minimally egocentric.

    Totalitarian regimes arise when power hijacks this sense of fair play and people are brought to believe that their individual needs are subservient to the few in power. That aggrandizement of the few is essential for the success of the many. Or brought to believe may simply mean capture bonding or coercion.

    if we don’t make these calculations consciously our bodies will still do it by evoking feelings of jealousy, envy, and desire which if unassuaged can turn into unbridled greed and misanthropy–you either are never satisfied with enough wealth or you become angry at those who are wealthier than you and ultimately at humans themselves because they are so easily driven into constant dissatisfaction, power struggles, etc that pulls you along as well as because you are still a human.

    The Jonses don’t know if they really need all that wealth and stuff but they can feel satisfied that if they do then they have it just in case and not only that they are showing that they have and thus are better as future mates or family supporters. In times of excess, even supposed, no matter, surpluses become irrelevant, in times of shortage, even supposed, how much extra is really enough? How much does our perception control the computations we make which are quite rational, and possibly reinforced emotively, but with different premises.

    Most of us remember the worst case as the bar to reach and we all know of millionaires that died impoverished. Watch out it could happen to you! Maybe that idiot Jones is right! Maybe he’s just an idiot! Maybe he sees something I don’t and is a leader? Which is it?

  27. Bill Vojtech Says:

    It’s not that weird that people would rather make more than their neighbors even if it meant making less themselves.

    Once the basics are covered and your survival is pretty much a given, it’s all status. And what does status bring? In evolutionary terms, you get your choice of mates and/or more mates.

    In terms you would identify with: When you were doing the Race Across America, if I could wave a magic wand and make you 2x as fast, but your competitors would become 3x as fast, you wouldn’t want the speed increase. But if a wave of my wand would make you 25% slower, while making your competition 50% slower that would be attractive.

  28. Irrational about money « Pragma Synesi - thoughts Says:

    [...] about money Michael Shermer’s blog about money (”Why People Believe Weird Things About Money“) describes how people would choose less money over more as long as the less money is more [...]

  29. Dave Shoemaker Says:

    Really, the only surprising news is that economists have continued to believe that they are calling called rational decisions are those which could only be made in vacuums.

    Everything we do can only be judged against others. Success, failure, love and survival is not about individuals on deserted islands but as competing members of a larger society.

    It’s like the joke about the two wildlife photographers taking pictures of a bear. The bear notices them and starts coming in closer. They are enjoying this chance to really close shots when they realize that it’s getting too dangerous. They decide to flee, but one stops to change from hiking boots into running shoes. His colleague tells him he’s stupid, because he can never outrun the bear. He replies “I don’t have to out run the bear, I only have to outrun you.”

  30. David Vanderschel Says:

    I once imagined a thought experiment for the value of money in a gambling context: Suppose that I have enormous wealth so that I can pay off on the following bet. I am going to play a coin flipping game with you. You get 3 flips. You can bet any amount you wish on each flip. The unusual thing is that I am going to pay you 2:1 odds when you win instead of the fair 1:1 odds for a coin flip. Also suppose that you have access to your entire net worth in cash and that borrowing money to bet is not allowed. Clearly any rational person would be motivated to play since the odds are so strongly in their favor.

    The question is, “How should you manage your money for these 3 coin-flipping trials?” From the mathematical point of view of maximizing your expectation, the answer is simple: Bet your entire stake on every flip! However, few would do so, as this strategy would wipe you out 7/8 of the time. My own feeling was that I would bet about 1/3 of my current net worth on each flip. When I posed the question to others, I got similar responses. No one thought they would ever be willing to risk their entire net worth. This is consistent with the risk-aversion strategy.

    It occurred to me that this ‘result’ might be explained if one assumed that the value one put on his net worth were proportional to the logarithm of the actual amount of money. (The log function tends to minus infinity as the argument goes to zero, so any possibility of a wipeout must clearly be avoided.) Then, for a given flip, the possible relative ‘values’ are log(1-f) and log(1+2f), where f is the fraction put at risk. Your expectation in this transformed sense is half the sum of those two logarithms. It turns out that this transformed expectation is maximized by the choice f=0.25 – not that far from my gut feel and the feelings of others I presented this to. This has led be to believe that the logarithmic valuation function for money is plausible. It makes sense if you think about how persons with very different net worth would approach certain types of purchases.

  31. Dean Says:

    I like money.

  32. Neuroeconomics Overview: “The Mind of the Market” « Customer Innovations - Driving Profitable Growth Says:

    [...] For a short teaser, read Shermer’s recent post:  Why People Believe Weird Things About Money [...]

  33. davek Says:

    Human behavior and relativity theory may be better rationalised in this scenario. I approached a very wealthy friend of mine, Mr Bill Gates (no relation to the Microsoft business). He is worth probably around US$60 billion. One fine after our usual golf game (as usual my golf sucks), I told him, “say, Bill, ole buddy, I have just got a bank guaranteed commitment of roughly US$60 billion cash. It was not easy but I managed to rope in a global network of rich individuals who felt they can part with a bit of their extra cash this weekend for this simple wager against your US$60 billions. Anyway you want to flip this coin, head or tail, winner take all. Wanna play?…. (moment of dead silence)… Bill said “Getta of here, are you serious? are you okay? did a golf ball just hit you? speak to me….. [Scenario analysis: I was irrational knowing the outcome and above all, no pay for doing all the hard work. Bill was rational since he knows that he has half a chance to lose all US$60 billions from a moronic stupid idea and he CANNOT afford to lose it. He would, of course, be an irrational lunatic to say "sure bud, let's do it). After lunch, we joined our usual group for a game of poker at the club house. I was still mulling over the US$60 billions proposition. If only......sigh...]

  34. Wadsy Says:

    I am usually an advocate of Mr. Shermer, but his (IMHO)totally inappropriate conclusion regarding the economic decision now makes me question some of his other reasonings. When I read the question, my conclusion and logic were identical to Frankee, Xynyx, et al: the most rational thing to do, clearly, is to have twice as much as anyone else has as opposed to 40% of what everyone else has, because the cost of goods and services can’t possibly stay the same without some deus ex machina market controller. In other words,IMHO, his hypothetical is a pure straw man without any reference to the real world and thus can never have any rational answer other than the first option.

  35. Mark Says:

    Surprisingly — stunningly, in fact — research shows that the majority of people select the first option; they would rather make twice as much as others even if that meant earning half as much as they could otherwise have. How irrational is that?

    It’s not very irrational at all. Even the lesser quantity of 50k/year is far above basic survival needs. After that point the primary value of money is comparative. Having above average income and status help in attracting mates, and giving offspring a comparative advantage against their peers.

  36. Irish Tom Says:

    Still some questionable assumption going on here I think, let me know if I add some…

    It’s true that we carry the natural drives to compete and do better than others, but we are not all constrained by that, some of us also enjoy motivations originating above the groin and gut.

    Where survival needs are secured, many people move up Maslows hierarchy and adopt a value system which prioritises egalitarianism over elitism, the common good over absolute self interest. Behold Bill Gates’ lavish philathropy and his calls at Davos for creative capitalism – business with a genuine social conscience (that will reqiore new governing documents so board decisions reflect the altered fiduciary duty, something a mere csr statement does not achieve).

    Some say that altruism is selfish since we do it to feel good in ourselves, that’s a half truth tantamount to a lie in my view. The whole truth of actions includes their cost and benefit to others as well as to one’s self, and over time.

    In a world where more money creates more options in quality of life and the prospects for ones progeny, MONEY = FREEDOM. I agree that the absolute amount of freedom is irrelevant, an isolated tribe of pygmies would consider 5′ 9″ to be tall, our scale of measures is relative to what’s around us.

    As to what base level of freedom people consider to be a fundamental right, it varies of course. In certain circles it seems to be quite a popular rationale that the best arrangement is every man for himself, a form of economic anarchy that makes little effort to rise above the predator versus prey law of the jungle. We have a name for people who are entirely self interested and care not for their fellow man, it is psychopath. The grand irony is that this mindset perceives behaviour based on higher ideals as irrational.

    In some countries an ingrained belief in caring about one’s fellow man tends to inform many a personal choice and even national policy, so we see things like charity, universal healthcare and social housing (now in increasing jeopardy as unregulated global capital flows bring the all out economic world war to every family and national budget).

    So beyond basic freedom rights, what distribution of available freedom do people find acceptable? Most people will tolerate some inequity (varying by ideology again) so long as they or theirs have a fair shot at those higher prosperity levels, but few clamour to establish a perpetual elite.

    In summary, what is more rational, to consider all factors or a subset?

  37. Eric Hamell Says:

    Before being directed to this site, I posted a couple comments on the Philadelphia Atheists Meetup message board. In addition to the evolutionary-theory points already made by others here, I noted a philosophical inconsistency in Shermer’s use of language. Here’s what I wrote:

    “Of course it’s not irrational at all, because that would presuppose there’s some ‘objective’ rule for what people ‘should’ want. It annoys me that Shermer insists on using philosophically dualist language like this, when he’s supposed to be championing a scientific, i.e., materialist perspective.

    “And of course it’s also obvious why people feel this way, even without having [yet -- I have since] read the article, because I’ve given thought to such matters before in the context of considering what kind of society makes for the greatest harmony. Natural selection makes us seek status as the vehicle to reproductive success, so it’s relative income that counts and not absolute income. This is why, even if you buy the argument that more inequality is the inevitable price to be paid for greater growth (and I don’t buy it), it’s futile to complain that people ‘should’ be contented with a rising absolute standard of living even as social inequality increases.

    “My discussion of how a market economy can function without private property or class inequality appears in the essay ‘Making the Right to a Job More Than a Slogan,’ linked from my blog.

    “Eric Hamell
    “Gondwanaland — stripey7.blogspot.com”

    and:

    “I heard part of the [Philadelphia public radio] interview and nearly all of his talk at the Ethical Society last night. He did allow that some behaviors aren’t ‘really’ irrational if you think of them in evolutionary terms. I maintain that it’s strictly meaningless to speak of preferences as inherently rational or irrational, because that presupposes that there are objectively ‘right’ desires, rather than simply desires that happen to exist. Rationality can only be defined in relation to a particular purpose; the root purpose of a behavior is simply a given and so can’t be rational or irrational, since there’s no deeper purpose in relation to which its rationality could be judged.

    “Eric Hamell
    “Gondwanaland — stripey7.blogspot.com”

  38. Irish Tom Says:

    Eric Hamell, I agree with your points and enjoyed that linked proposal “Making the Right to a Job More Than a Slogan”. The co-operative movement are another force to be reckoned with – very big. That’s the route I’m going with a view to building capacity and propagating, just doing my bit toward the takeover of production. It’s always been a tough one for economists, how to predict the impact of determined changemakers, trend extrapolation doesn’t cut it.

    My greatest inspiration is Semco (wikipedia) because it proves an alternative to traditional capitalist central command hierarchies is not just possible, but superior. Ricardo Semler wrote two fine books about worker democracy and profit sharing in practice. The profit motive drives everyone, but solidarity, freedom, and creativity are big factors too, so much so that wellbeing, entrepreneurship, and innovation at Semco have grown massively, as has their sprawling bazaar of successful businesses.

    They still have the hangover of seperate ownership and it’s dividend overhead, but subtracting the ‘absentee landlord’ only improves the model.

    On a note of levity. I wonder if the Philly atheists think it is a leap of faith to believe in the theory of there being no God even though that theory cannot be proven? I’ve also been wondering since all this talk of the universe possibly being a simulation re-emerged, if there is a God, does God worry if s/he is ‘just’ in a simulation? Think I’ll just choose to believe whatever makes me feel good, eternal salvation in heaven, hmm, better than nothing I guess.

    Best regards,
    Tom

  39. Kim Ray Says:

    I think the point of the thought experiment was to pose a problem controlled for “relative buying power”. This illustrates the decision-making process involved: most people choose status over survival.

    Any number will do if the income level is understood to be “enough”. Anything more than that is clearly for other things besides survival. With that understanding, TWICE as much income as needed for survival should describe a level of comfortable wealth. Rational? Sure. Typically “human”? Nope. Irrational to think otherwise? In purely financial terms- yes.

  40. ED Says:

    Why would someone earning twice as much as everyone be irrational to the notion of someone earning less than half of what everyone else was making? It would seem that the standard of living in a universe where people were earning more than twice what I was earning would be out of my reach to enjoy even the basic necessities of life. On the other hand if I earned twice what everyone else made, the standard of living would be well below my income. It is the same thing as if you said today everyone in the world is making $100,000 but you are making 40,000. It is the same principle. I don’t understand.

  41. ED Says:

    The world around us has a mean cost of goods and services. When people earn less than what it takes to purchase life’s basic necessities they are living below the poverty line. The cost of those basic goods and services rise with the mean income of our economy. If you are making .4% of the average income that everyone else in the world is making why are you better off, regardless of the dollar amount reflected on the check you bring home? I don’t understand the rationality of this logic. UNLESS you are talking about a world where current economic forces do not apply.

  42. Kim Ray Says:

    The fact is that there are many people earning much more than is needed for the “basic necessities” of life and this doesn’t raise the “cost of living” for everybody else.

    The point is this: if I am making a “good income” right now in my place in the world, and I have an opportunity to double it, why would I care about what everybody else is making?

    Well, because they’re making more than ME, of course!

    Try this on for size: would you rather make $1,000,000
    while everybody else makes $500,000, or $2,000,000 while everybody else makes $5,000,000?

  43. ED Says:

    There is some ambiguity here in the implication of word meanings. I am saying everybody and you are saying many people. If everyone is making 5,000,000 and you are making $2,000,000, you are in real trouble. However if “many” people are making $5,000,000 and you are making $2,000,000. it is a different reality altogether. I could care less if someone makes more than me concerning this schema, however I am old enough to remember when $350.00 per month purchased what $2,000. per month does now. What has changed? Prices for goods and services have risen to keep pace with the rise in income. Don’t really care how big you make the number, if everyone, “if EVERYONE” is making that number and you are making half of it, “you’re screwed”.

  44. Robbie Says:

    Coming out of the depression in the late 30′s,my family and many others,did not worry that they were making less than the “fatcats”.They were just grateful that things were improving.The point is that it is hard to set a financial benchmark against a moving background.All very interesting nonetheless

  45. Jim Hull Says:

    Are risk aversion and status seeking irrational? If these preferences are hard-wired into us, lo these millions of years, maybe our DNA “knows” something important about our survivability. The number of dollars isn’t the only calculus: status can be crucial in collecting resources and mates, and risk aversion helps buffer us against bad bets that could obliterate hard-won gains and, hence, reduce our fitness. For example, I’ll move off my current position for a definite chance of a gain but not for slight odds — say, 51-49 — because a small gain isn’t as important as avoiding a backslide. (Younger and/or poorer subjects probably take more risks, though.) Perhaps our instincts, in these types of decisions, aren’t so irrational after all.

  46. Stevie Says:

    The problem is an example of a cost-free question. I remember that, when surveyed, something like 60% of UK residents said they’d prefer to pack up and leave the country. Of course, the number who do is tiny as a percentage because the costs of moving (economic, social and so on) keep people where they are. Why bother thinking carefully about some hypothetical that clearly would not be true (costs remaining the same).

  47. exile Says:

    Money is merely a measure of the amount of credit you have with the community at large. If you are richer than everyone else – then you have economic power. You can hire other people as employees or servants. You can bribe them.
    You can gain social status through having the biggest house, the best car, the most impressive holidays, the biggest weddings. Human beings (like monkeys) value status above almost all else – so wanting to be richer than everyone else is certainly not irrational. Who wants to be the millionaire on an island of billionaires?

  48. peregrine Says:

    Afternoon
    Brief comment on the opening example. The first thing that struck me intuitivley is that I’m not sure that people presented with the question actually believe (and I certainly would have trouble thinking that way) that prices really would stay the same. A few people I’ve asked the question alse need several rounds of reassurance on the point.
    Perry

  49. Z Says:

    I am troubled by the assumptions made. I personally don’t care what other people make. So, in the first example, I see the question: Would you rather earn $50,000 per year or $100,000 per year? Some people may choose the $50,000 per year option for a variety of reasons. Maybe they have traditionally earned an annual salary equal to the poverty level or less, and associate the annual salary of $100,000 with rich people whom they despise, and they don’t want to be like “them.” So, they choose the $50,000 per year option because it is more than enough for them to live on, and $100,000 per year gives a negative connotation. So, I think the flaw in this type of research is making the assumption that those responding are considering the salaries of others just because that figure was presented.

    In addition, not ALL people desire a position of power over others. Some just want to get through life as stress free as possible without controlling others.

  50. Mario Says:

    As I understand it, the income problem, as described, is equivalent to asking of the average Joe if he would rather carry on living with his present income, today, or double it up overnight without any trade offs. I would bet that the majority would qualify the decision to remain on the same income as irrational. I believe this was the point of whoever suggested the experiment. The fact that most are trying to apologise the rationality of that choice, only reinforces the irrationality the questioner was trying to convey.

  51. Anarcissie Says:

    exile is correct. The original proposition does not consider the power difference resulting from wealth difference.

  52. It’s free and open for a reason! Says:

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  53. Matt Says:

    The first one needs more clarification in my opinion. Does everyone make more or less than you or do many? Its a huge difference. I would chose to make 50 if everybody else makes 25, but I would choose 100 if many were making 250.

    Is that a rational way of looking at it?

  54. Hopkins Says:

    in your example of people prefering to earn $50,000 a year when the average salary is $25,000 (as opposed to earning $100.000 when the average is $250,00), I too would sooner earn $50,000 and the LOGICAL reason is that if I earned $100,000 when the average is $250,000 I would NOT be better off because the people earning $250,000 a year would push up prices.

  55. Nathaniel Says:

    Yes, I was about to write what Hopkins wrote before I read his comment. The question, as stated, is too equivocal for the results to be interpreted meaningfully. It goes without saying that if everyone earned a trillion dollars a day, the value of the dollar would not be what it is now. If Shermer failed to recognize this rather obvious issue, i.e. inflation. It makes one wonder what neuroeconomic biases are hindering his understanding. I doubt this is the case, but he ought to have recognized the dubiousness of that question, as stated.

    I presume that what they meant to ask was something like, “would you prefer to earn $100,000 if this meant that everyone in your close circle of acquaintances would earn $250,000…” such that while the relative prestige the money confers would be less while the actual material value of the money would remain the same. However, even phrasing the question in that manner is dubious; it brings in issues about personal relations that might confute the subject. I mean, there is something to the point that few of us would be happy being the least materially successful person in our families, and that is not really so absurd when you think about it, since, to a large degree, we may judge our relative individual merits on the basis of how much we achieved given the opportunities afforded us; if everyone in the family did more than you, made more than you, it would seem to suggest that other people, with similar opportunities, tended to achieve more, and that’s an understandably abhorrent prospect.

    The basic point is that since the relative value of money is bound up in all kind of personal and social relations, personal achievement, family status, social status, let alone the numerous moral issues attached to wealth, you can’t really say that there is a “rational” course with regards to how one ought to deal with it, what values one ought to hold with respect to it. This field of inquiry is interesting, and I appreciate that it is being examined, I suppose there is a place for speculation about what the data suggests about human psychology, but it is important to be very cautious here.

  56. Money, Monkeys, Mortgages, and Motivation « Perspicacity Says:

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  59. Memed Bengul Says:

    Some remarks:
    1)i don’t like personal insults, but..anyone who suggest to make the assumption “that prices of goods and services will stay the same” is an idiot, skeptic or not. he has almost no understanding of the most fundamental aspect of economics. that majority which preferred $50k may be just as ignorant of econ theory, but at least they were smart (intuitively, at least). there is no such thing as an absolute dollar income; figures are all relative and merely dependen on the amount of money and amount of goods available. Shermer should then accept a $1000 per annum job today, since if you go back far enough even the richest people made much less. preferring to earn twice as much as the majority does not mean you want to crush everybody, it simply means you would rather be rich than poor.
    2)experiments with monkeys -or men, for that matter – mean nothing in the social sciences. i’ve even come to doubt this in the medical professions -to a degree, that is). economics can only exist in the realm of pure theory, based on a priori reasoning, along with a few axioms. a monkey trading for raisins means squat.
    3)another person wisely pointed out the Austrian approach. most people assume that economics is about money or material gain, when in reality it is about satisfying your wants, according to YOUR value judgements, utility schedule, etc. who ever said anything about money? preferring a material/fiancial loss in order to show off to a girl/to feeling more ethical, heroic, altruistic/to seeing someone else lose even more, etc. can indeed be more rational. living a religious life can be more rational. overdosing on heroin can be more rational (say, than drinking green tea). it all boils down to personal utility.

  60. More on Irrationality « auto insurance quote Says:

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  61. heche Says:

    Just a thought, according to our way of life we live in fixed reality,it’s nature is transient. Industry, commerce, the aquisition of money to buy survival,comfort,convenience,status. To indulge in the paradigms of culture, perhaps as a matter of privelage?
    The politics of fitting in weaving it’s way through all of it. And isn’t it nice the economics is and always will be theory. Feels good to indulge in speculation though. Are we more driven today by association or suggestion.

  62. Dragantraces Says:

    A quick note:
    I find it curious that when these kinds of problems are dissected, the idea that the greatest reproductive success is a primary consideration in economic/financial decision making and that that kind of success can be equated with the greatest number of sexual partners. This completely ignores that for more than half of the human population this is utter crap. This is the same blinkered approach to humanity that looks at the treatment of cardiac disease as if it were a no more a disease of concern to women than is prostate cancer.
    I think it would be of value to know whether there is a significant diference in the way men and women respond to these set ups.

  63. We Just Don't Know Says:

    The problem with examining every human action within the sexual sphere, is that it blatantly ignores the existence of monogamous human relationships that are often entered into for the security that can be offered personally, and when rearing offspring. In these instances, more is at work than the simple notion of persistent “seed spreading.” Of course, sexual privilege plays a prominent role in human societies, but the complexity of the human emotional world allows for, and frequently involves other motivations.

    Many people simply want to live a fairly peaceful life, raise a set number of offspring, enjoy themselves and die. I don’t see how these narrow descriptions of status motivations effectively address the motivations of the average person.

    To assume that status seeking amongst human primates is derived solely from an instinct toward securing sexual privilege, is to promote a naive characterization of human evolution.

  64. Eddie Says:

    It’s called prospect theory.. Tversky proved it in 1979..

  65. Fillo Says:

    Without being 64-comments thorough, it seems, no one backs the concept that $100k in a $250k world is better than $50k in a $25K world. Me either; relative rules. Has MS run out of topical, inviting wisdom? Has the need for feed-the-beast volume diluted his center stage lighting and surgical logical/mental dexterity? Like MS says …..he wants what Mulder (X-files) had on his office door…..”I want to believe.” Me too. p.s. to MS: Change your position or defend it. I wonder too, how much the grow-or-die phenomena has a grip on MS and his empire. I’m sure it was tidier in the begining; poor guy has had to repeat himself to death.

  66. Share Filtration Says:

    Ha! What a coincidence! Frankee’s comment was not present when I typed mine… how interesting that we would make the same point at about the same time!

  67. Paul Says:

    Why Behavioural Economists Think Weird Things About People. People mostly pick the $50k vs $25k option because money and material possessions are only valuable relative to those of others. Duh. It’s the other side of the question as to why people with more money than they could spend keep trying to earn it. Perhaps we’re not really homo economicus.

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