Wednesday Wisdom

How it Started

Richard Thaler is an influential economist known for his work in behavioral economics. He was born on September 12, 1945, in East Orange, New Jersey, USA. Thaler earned his Ph.D. in economics from the University of Rochester in 1974.

Thaler is perhaps best known for his pioneering work in behavioral economics, which explores how psychological factors affect economic decision-making. His research challenges the traditional economic assumption that individuals are perfectly rational and consistently self-interested in their decision-making processes. Instead, Thaler's work emphasizes that people often make decisions that are influenced by cognitive biases, social factors, and emotions. In 2017, Richard Thaler was awarded the Nobel Memorial Prize in Economic Sciences for his contributions to behavioral economics. The Nobel committee highlighted his work in integrating psychology into economic theory, showing how human traits systematically affect individual decisions and market outcomes.

In 1977 Richard Thaler was only 32 and an assistant professor at University of Rochester when he heard that two famous psychologists from Israel were going to be at Stanford University. As an economist, he was interested in understanding the behaviors of people in making economic decisions. Meeting Daniel Kahneman and Amos Tversky would change his life as the science of psychology combined with economics would render a new field called behavioral economics and a gave the world a fresh look decision making.

What he produced

The Undoing Project: A Friendship That Changed Our Minds is a 2016 nonfiction book by American author Michael Lewis. The Undoing Project explores the close partnership of Israeli psychologists Daniel Kahneman and Amos Tversky whose work on heuristics (simple rules) in judgement and decision making on errors of the human psyche.

Daniel Kahneman was born on March 5, 1934, in Tel Aviv, Israel, and has made profound contributions to our understanding of human decision-making processes. Kahneman began his career studying psychology and later collaborated closely with Amos Tversky, a cognitive psychologist. Together, they developed groundbreaking research that challenged traditional economic theories of rational decision-making. Their work laid the foundation for behavioral economics by demonstrating systematic cognitive biases and heuristics that influence human judgment and choice.  One of Kahneman’s and Tversky's most influential contributions is prospect theory, which was introduced in 1979. Prospect theory describes how people make decisions involving uncertainty and risk. It suggests that individuals evaluate potential losses and gains relative to a reference point (often the status quo) and exhibit risk aversion for gains but risk-seeking behavior for losses, contrary to the predictions of traditional economic theory. Kahneman and Tversky identified various cognitive biases and heuristics that impact decision-making. For example, the availability heuristic, representativeness heuristic, and anchoring effect. Kahneman was able to prove through studies how the anchoring effect changes people decision making often irrationally by changing initial numbers in questions asked in surveys. Another cognitive bias is the Sunk Cost fallacy were costs that have already been incurred and cannot be recovered or changed by any current or future decisions clouds the decision-making process because of the money or time already invested. Examples include money spent on a non-refundable ticket, time invested in a project, or effort dedicated to a failing endeavor. Kahneman describes how individuals often fall into the trap of the sunk cost fallacy by continuing to invest additional resources (time, money, effort) into a project or decision simply because of the past investment, even if continuing the investment is not justified by future prospects or expected outcomes.

These are key concepts that illustrate how individuals use mental shortcuts (heuristics) that can lead to predictable errors in judgment (biases). In 2002, the Nobel Memorial Prize in Economic Sciences (there is no award for psychology) was awarded to Kahneman for his work. His pioneering work in integrating insights from psychological research into economic science, particularly his contributions to understanding human judgment and decision-making under uncertainty was the foundation for behavioral economics.

2024: Where it’s going

After receiving the Nobel Prize, Kahneman continued to influence the fields of psychology, economics, and behavioral science through his research, writing, and lectures. He co-authored the bestselling book "Thinking, Fast and Slow" (2011), which presents a comprehensive overview of his research and insights into human cognition and decision-making processes. Kahneman believes our brain has two systems, one that’s fast, intuitive and automatic but is prone to biases and errors like over confidence. The first system would be described by the fight or flee instinct in people. The second system is slow analytical, deliberate and logical.

In Moneyball, Micheal Lewis looks at inefficiencies in baseball and explores how one team decided to look at a broader set of statistics to find inefficiencies or players that are undervalued. Thinking Fast and Thinking Slow is an epistemological work that describes how we process information, learn and make decisions. It wasn’t until after he published the Undoing Project did Lewis realize that’s Kahneman’s research were instrumental and influential for many of his books like Liars Poker, Moneyball and The Flash Boys. In each of his books, Mr. Lewis finds people who understand these cognitive biases and look to exploit the discrepancies in their particular industries.

Mr. Lewis has proven over his career to be an excellent storyteller and one of the best non-fiction writers. He often speaks of his luck in finding such interesting characters in which to find amazing stories to tell. In Mr. Lewis’s latest book, Going Infinite: The Rise and Fall of a New Tycoon, he tells the story of Sam Bankman Fried (SBF) and the rise and destruction of his crypto firm FTX. Mr. Lewis couldn’t believe his fortune to be introduced to SBF and to have complete access to him for over a year as the story unfolded. His book was released on Oct 3, 2023, on the day that SBF trial for corruption started.

In his book and in subsequent interviews, Mr. Lewis portrays SBF as a reluctant and misunderstood businessman whose main goal was to earn enough money for altruistic philanthropy and to make the world a better place. Mr. Lewis seemingly portrays SBF as an Icarus type character that got too big, too fast and flew too close to the sun. Unfortunately, this is not the case as SBF used customer funds for trading and his philanthropy, which by any definition is theft. He was found guilty on 7 counts of fraud and was sentenced to incarceration for 25 years.

Epilogue

It seems Mr. Lewis fell prey to several of the cognitive biases that he often wrote about and detailed in the Undoing Project. Spending a year as “a fly on the wall” may have anchored Lewis’s image of SBF or perhaps after sinking a year’s work into the book, Lewis had trouble changing the main character from hero to villain.

After a long and illustrious career, Mr. Lewis seems to be Thinking Fast while also forgetting to Think Slow.

*Daniel Kahneman passed away last month at the age of 90-RIP

And now you know...

Thanks Dad, for the gift of curiosity!

Philosophy is the art of thinking, the building block of progress that shapes critical thinking across economics, ethics, religion, and science.

METAPHYSICS: Literally, the term metaphysics means ‘beyond the physical.’ Typically, this is the branch that most people think of when they picture philosophy. In metaphysics, the goal is to answer the what and how questions in life. Who are we, and what are time and space?

LOGIC: The study of reasoning. Much like metaphysics, understanding logic helps to understand and appreciate how we perceive the rest of our world. More than that, it provides a foundation for which to build and interpret arguments and analyses.

ETHICS: The study of morality, right and wrong, good and evil. Ethics tackles difficult conversations by adding weight to actions and decisions. Politics takes ethics to a larger scale, applying it to a group (or groups) of people. Political philosophers study political governments, laws, justice, authority, rights, liberty, ethics, and much more.

AESTHETICS: What is beautiful? Philosophers try to understand, qualify, and quantify what makes art what it is. Aesthetics also takes a deeper look at the artwork itself, trying to understand the meaning behind it, both art as a whole and art on an individual level. A question an aesthetics philosopher would seek to address is whether or not beauty truly is in the eye of the beholder.

EPISTEMOLOGY: This is the study and understanding of knowledge. The main question is how do we know? We can question the limitations of logic, how comprehension works, and the ability (or perception) to be certain.