Dan Ariely, PhD
Dan Ariely, PhD, the James B. Duke Professor of Psychology and Behavioral Economics at Duke University in Durham, North Carolina. He is coauthor of Dollars and Sense: How We Misthink Money and How to Spend Smarter. DanAriely.com
We all like to think that we make smart decisions, but according to behavioral economist Dan Ariely, PhD, our choices often defy logic and rationality. Ariely’s research has shown that even when we assume we are acting in our best interests, our reasoning abilities are influenced by our expectations and emotions.
By becoming more aware of these tendencies, we can make decisions that serve us better. Bottom Line/Personal asked Ariely for some common examples of irrational decision-making and how to choose more intelligently…
When deciding how much to spend on something, we often think in relative terms.
Example: In surveys, when asked whether they would walk five blocks to save $7 on a $15 pen, most people say yes. But they say they would not walk that distance to save $7 on a $1,500 suit. The $7 represents nearly 50% of $15 and less than one-half of 1% of $1,500, so we perceive the 50% savings as more valuable. But the outlay of time is the same, so rationally, the total purchase price should not make a difference.
Similarly, a 25-cent savings seems dramatic when we are purchasing a low-priced item, such as a $1.50 can of soup. We may spend lots of time clipping coupons, even though the savings are small and there are many more satisfying things that we could be doing with our time.
Rational response: Instead of comparing the amount of savings on a product or service to its total price, ask yourself what else you could buy for the amount saved. This question gives you a point of comparison that has nothing to do with percentages.
Example: “Seven dollars would buy me three cups of coffee. Is the time spent walking five blocks worth three cups of coffee?”
Also consider “opportunity cost,” which is a way economists acknowledge the value of time. Ask yourself, What else could I be doing with this time if I were not clipping coupons?
The word “free” engages the emotions. “Free” offers create such intense excitement that we often don’t bother to consider the potential downside.
Example: You are choosing between two credit cards. One credit card has a $100 annual fee and charges 8% interest. The other card is free — it has no annual fee — but the interest rate is 11%. Most people choose the free card, but the higher interest rate ends up costing them far more than $100 a year. (Of course, if you pay off the balance every month, the no-annual-fee card makes sense, but most credit card holders carry a revolving balance.)
Even giveaways, such as free samples at conference booths, have their downside. When we take home free things that we don’t need, we then must deal with clutter, find a place to store the items or take time to dispose of them. Free samples of a medication may get us started on an expensive drug when a cheaper one might work just as well or better.
Rational response: When considering a free offer, ask yourself, What is the hidden cost?
Our expectations have an enormous influence over our physical experiences. When a person takes a pain reliever, merely expecting the medication to work causes the body to secrete opioids, powerful chemicals that act much like morphine. The ingredients in the drug also help to relieve pain, but even a placebo pill causes the release of these morphinelike chemicals in response to the belief that pain relief is on the way.
Our expectations also affect our perception of quality. When comparing similar products at different prices, we typically assume that the higher-priced product is better — even if the ingredients in both products are exactly the same, as with aspirin.
Rational response: Make your unconscious expectations conscious. Instead of automatically reaching for a higher-priced product, ask, “Why is product A more expensive than product B? Are the ingredients different… or am I paying more for marketing, branding and packaging?” If the products are virtually the same, choose the lower-priced one and say to yourself, I am confident that this product will help me.
Owning something changes our beliefs about it almost immediately. Once you become an owner, you place greater value on whatever you bought.
Example: In a department store, an attractive coffee table catches your eye. You are not sure whether you actually need a new coffee table or how it will look in your home, but it comes with a 30-day money-back guarantee. You tell yourself that you will try it out and return it if you don’t like it.
When you get the table home, you move other furniture to make room for it, put magazines on it and reposition the rug around it. Now it feels like your coffee table, making it more precious to you — and harder to return.
Rational response: Acknowledge this tendency to get attached quickly to things you own. Be skeptical any time you think, I’m just taking it home to try. Instead, say, The likelihood of my returning this purchase is very low. Do I still want it?
