Tuesday, January 14, 2014

No Loss Aversion for Others

Still working on the travel posts ("posts", plural; it was getting way too long for a single post), so here's a quick, easy to read paper on how we make riskier decisions for others than for ourselves.

In short, even when we have no intention of hurting or defrauding anyone, we still make riskier decisions when the impact of failure falls on other people than when they fall on ourselves.

When we make decisions for ourselves, we tend to use strategies that minimize the possible loss. That makes sense; losing what you have can be devastating, and not worth the possible gain of something you never had.

Imagine a lottery where you have a 50:50 chance of either losing your home, or winning a second, identical one. Nobody would play; a second home is not worth nearly as much as the first one. But shift the odds to, say 1:10 of losing your home and 9:10 to get the second one and still very few people would take the gamble even though strictly speaking it's a good bet. We are fundamentally loss averse, and for good reason.

But as this paper shows, when we make decisions for others we tend to choose riskier strategies, and no longer feel that loss aversion.  The important point of this paper to me is that the participants had no reason at all to favour one strategy over the other. They were honestly trying to make the best decisions possible.

It's pretty likely you have the same effect in real-life situations; say, when you advice a friend or family member about some investment or other money decision. You are likely to give them riskier advice than you would follow yourself. And you're likely to receive riskier advice as well. Worth keeping in mind.

1 comment:

Jordi Pujol said...

As a business student I've seen and applied the risk aversion topic a couple of times by now and this bias seems logical, but I didn't notice it until I read your post.

Currently we are on the topic of cognitive dissonance and maladaptation. And this seems another example of it acting currently.

On travel, I will enjoy any update!