#Nudgestock2019: Two Ways To Make Decisions
German psychologist Gerd Gigerenzer has studied the use of bounded rationality and heuristics in decision making. Regarded as the Father of Heuristics, Gerd investigates how humans make inferences about their world with limited time and knowledge.
This year, Gerd will take the stage at Nudgestock 2019 on Friday 7 June in Folkestone. Ahead of his talk, we catch up with Gerd to find out more.
What will you be speaking about at Nudgestock?
I will talk about two ways to make decisions. Decision making under risk deals with well-defined situations where all possible outcomes and their probabilities are known for certain.
If you visit a casino in Las Vegas to seek your fortune by playing roulette, you are in a situation of risk. No skills other than calculation are needed.
Decision making under uncertainty, by contrast, deals with real-world situations where this certainty is not attainable. If you ponder how to invest your money, whom to vote for, or whom to marry, then surprises may happen. In these situations, smart heuristics can lead to better decisions.
Tell us a bit about heuristics. What are some common heuristics we use every day?
Here is an example. Assume you want to invest your money, and you don’t want to put everything in one basket, you want to diversify. But how?
Harry Markowitz won the economics Nobel Prize for finding the solution: the mean-variance portfolio. When making his own retirement investments, he used his optimization model, so we might think. He did not.
Markowitz used a simple heuristic, known as 1/N: divide your money equally across the N assets. In the uncertain world of finance, this simple heuristic can make more money than the Nobel Prize winning portfolio.
How can heuristics help us to make better decisions?
A common but incomplete view is that heuristics save effort at the cost of accuracy. This view is true in situations of risk, but not under uncertainty. Here, using too much data and complex models leads to overfitting the past, which is a problem when the future is not like the past.
What is meant by the term "ecological rationality" when it comes to heuristics?
Rationality is often equated with consistency, such as logical rules. Yet one can be perfectly consistent and wrong at the same time. Consistency is not a good measure of rationality, and we found little evidence that it is actually associated with better health, wealth, or happiness. The alternative is ecological rationality, which measures the degree to which people actually achieve their goals. It analyzes the conditions under which a heuristic, say 1/N, is likely to succeed. It brings back the real world into the abstract study of rationality.
Nudgestock 2019, Ogilvy's annual festival of behavioural science, takes place in Folkestone on Friday 7th June. More info here.