Question

Economists once based most of their theories on the assumption that humans would make rational economic decisions. Three recent Nobel prizes have shown those assumptions to be incorrect. They have identified several common types of irrational behavior. Match the type of the behavior to the description.

1, Confirmation Bias--------------- A) if it is easy to imagine than it must be common! You have seen news stories on shark attacks (or terrorists) so you think they must be common. They are not. And the reverse (black swans –I’ve never seen a Black Swan so they do not exist.)

2, Overconfidence bias --------------- B) Too much importance is given with too small differences. A 1% chance appears much better than zero. It is not   A 99% chance appears much worse that 100%. Again, it is not.

3, Availability Bias ----------------- C) We can have our expectations set by being given an anchor point. Marketing professionals use the anchor point to set your expectations! It works on even the smartest and most trained people. Research also shows that those smart people vehemently deny that it works on them.

4, Prospect Theory ----------D)  If you already believe something, you will notice evidence to support the belief and ignore that which contradicts the belief

5, Priming and the Anchor Point--------- E) Research says that we all think we are above average. Sometimes we call that the “Lake Woebegone” effect. (Where all of our children are above average.)

Answer 1

Answer 1- Confirmation Bias............. (D) If you already believe something, you will notice evidence to support the belief and ignore that which contradicts the belief.

Explanation-Confirmation bias is the tendency to interpret, favor, and recall information that confirms to one's existing personal beliefs or values and distort, ignore or process existing information unintentionally. It is an important type of cognitive bias that distorts evidence-based decision-making.

Answer 2-Overconfidence bias...........E) Research says that we all think we are above average. Sometimes we call that the “Lake Woebegone” effect. (Where all of our children are above average.)

Explanation-The overconfidence effect or “Lake Woebegone” effect is a well-established cognitive bias in which is a natural human tendency to overestimate one's capabilities such as driving, teaching, or spelling,Overconfidence is one example of .Lake Woebegone” effect.

Answer 3-Availability Bias..........A) if it is easy to imagine than it must be common! You have seen news stories on shark attacks (or terrorists) so you think they must be common. They are not. And the reverse (black swans –I’ve never seen a Black Swan so they do not exist.)

Explanation- Availability Bias is a mental tendency or a bias that relies on immediate examples that come to mind like latest news etc. while evaluating the accuracy a specific concept, method, topic or decision. The availability bias relies on the notion that if something can be recalled, it must be true, and if cannot be recalled, it must not be true or important.

Answer 4-Prospect Theory........... B) Too much importance is given with too small differences. A 1% chance appears much better than zero. It is not   A 99% chance appears much worse that 100%. Again, it is not.

Explanation-Prospect theory is a sub-group of behavioural economics also known as the "loss-aversion" theory. In this theory people assumes that losses and gains are valued differently. Individuals make decisions based on perceived gains instead of perceived losses. For example, if two choices are put before an individual, both equal, with one presented in terms of potential gains and the other in terms of possible losses, the person will choose the option with the potential gain.

Answer 5-Priming and the Anchor Point..........C) We can have our expectations set by being given an anchor point. Marketing professionals use the anchor point to set your expectations! It works on even the smartest and most trained people. Research also shows that those smart people vehemently deny that it works on them.

Explanation-Anchoring (also called focalism) is a type of cognitive bias where an individual depends too heavily on an initial piece of information to make subsequent judgments/ decisions. Here the initial piece of information is considered to be the "anchor" during decision making. This bias occurs while interpreting future information using this anchor and without proper analysis of the facts.