Saturday, June 30, 2012

Thinking, Fast and Slow: Chapters 25, 26 and 27

Nobel Prize recipient Daniel Kahneman authors this book on the behavioural sciences. Combining his own lifelong research with that of many other leaders in the field, he discusses some of the systematic mental glitches we experience that cause us to stray from rationality, often completely unbeknownst to us. Thinking, Fast and Slow is full of illustrative experiments and examples that you can even try on yourself!

As a practitioner of psychology, Kahneman was baffled when he encountered the assumptions that underlie economics. The rational beings economists had designed their theories around were not the same beings Kahneman had been dealing with in his multitude of experiments!

Kahneman spends some time describing Bernoulli's Expected Utility Theory as a breakthrough that correctly predicts a number of behaviours. But it has a number of flaws, including the fact that it doesn't take a reference point (i.e. someone's current wealth) into account.

Kahneman's Prospect Theory is more complex as it requires a reference point, but it makes better predictions where Utility Theory fails. In addition, it incorporates the fact that humans appear to hate risk more than they like gains.

Finally, Kahneman discusses the ins and outs of the Endowment Effect.

1 comment:

Rahul said...

If I get a chance to rename this book; I'll call it as "Why We Do; What We Do". I loved the concept, presentation and detailed discussion with nice examples for almost all concepts in this book. For me this book is a handbook to try to find out about the reasons behind my past decisions and to understand behaviors and day to day events.
A must read for all.