Notes on: Predictably Irrational

Predictably Irrational by Dan Ariely

I bought a copy of this book after seeing several of Dan Ariely’s videos on pricing and behavioral economics.

The book was a breeze to read and I found many of the topics covered to be useful for running a business. I wrote up some of the key points that resonated with me below.

Notes:

Irrational behaviors are systemic and predictable.

On Using Decoys

Human beings are not naturally predisposed to assess and compare the relative value of things. This makes it so that we struggle to compare the worth or value of unlike things. At best, we are able to make generalizations about each thing we wish to compare and convert those generalizations into estimations of value.

Situational context is important when both selecting and estimating the value of things that are hard to compare. Ie: we are open to suggestions on what we want after we have have developed a generalized desire. As an example, I know I want a cheeseburger for dinner but I am unsure of what is good and available in my immediate area. I’m open to recommendations from friends and apps like Yelp.

Ariely makes an interesting observation that “given three choices, most people will take the middle choice.” He goes on to say that, “even though people generally won’t buy the most expensive dish on the menu, they will order the second most expensive dish”. The takeaway is that clever pricing schemes can take advantage of this default behavior by offering several items and inflating the top price designed to move buyers to the target product which is the “2nd best” option.

This pricing scheme is enhanced when adding a decoy item to the pricing scheme. This decoy is an item that is similar to the target but tough to compare on a relative basis. The decoy is intended to push the customer to select the ideal product.

As his example, Ariely offers 3 trip options. A trip to Rome or Paris both with amenities such as free breakfast and then a third option of going to Rome but the hotel does not include free breakfast. it becomes challenging to compare the first two Rome & Paris trips but is relatively easy to compare both of the Rome trips. Because of this, it is more likely that an individual would select the first Rome trip because it gives the sense of a better deal. Although this decoy may not work on everyone, it was an intriguing pricing tactic that was explored in the book.

The point appears to stress that comparisons are challenging for people and that you can maneuver a person to a desired outcome by leveraging that mental challenge. The strategy should be to create irrelevant product offerings intended to facilitate challenging comparisons, combine these comparisons with price discrepancies and motivate the target audience to purchase the middle tiered item at an inflated profit margin.

Anchors

First impressions matter, especially when it comes to pricing. When we see an item or a service at a listed price, that price becomes imprinted in our minds and acts like an anchor. It is an arbitrary limit for what we are willing to pay moving forward. It has lasting consequences for the success of future price changes. Ariely refers to this as arbitrary coherence where the “initial prices are ‘arbitrary’, once those prices are established in our minds they will shape no only present prices but also future prices”.

So what this means is that when setting up pricing it’s important to understand that the consequences are long lasting and the ability to raise pricing on a particular product and any item related to that product.

Herding

Herding Behavior – we mimic the behavior of others by assuming that if someone else is doing something it must be a good or enjoyable activity. If they are avoiding it then it’s probably not enjoyable. The example used in the book refers to long lines at a restaurant as compared to an empty restaurant. Which would you choose to try?

There can also be self herding where an individual is more likely to repeat a decision based on past experience. An example is ordering the same menu item that you enjoyed in the past. It was good then so it will be good this time too. I’d rather make a choice I know I’ll like over an unknown option.

Whether following the herd or mimicking past decisions, these choices are anchor choices and ultimately tough to break. Breaking anchored habits requires being placed in a situation where the new option is hard to compare to the old option. Example: You have been going to McDonald’s for hamburgers since you were a kid but a Shake Shack opens up down the road. Their burger is significantly more expensive but the long lines at the door tell you it must be a different experience. You check it out and sure enough, the burger is significantly different than what you are accustomed to at McDonalds. Your anchor pricing for a hamburger has changed and now you view McDonalds as a cheap option.

Ariely then asks some interesting questions. Are our habits the sum or natural conclusion of our irrational predictability? If we know that our first decisions are so foundational to our habits can we be regularly challenging these habits? Can we ignore the herd and make sense of the decoys and anchor prices?

Irrational excitement for free stuff

People tend to lose track of the tradeoffs of goods when there is a free component thrown into the equation. Ariely believes that our fear of loss creates a built in modifier that creates a feeling of “cant lose” when free items are included in the exchange.

This built in modifier can be exploited. You can pair a low cost item given for free with a high margin product to make a sale.

Social vs. Market Norms

Social requests tend to carry more weight than monetary incentives. They are very difficult to reestablish. Therefore be careful when navigating social norms to avoid characterizing them in market norm terms. Once the changeover happens its very difficult to change back.

Arousal and Temptation

Arousal and temptation are powerful motivators. When subjected to these phenomenon it is much harder to ignore the sensations, “avoiding temptation altogether is easier than overcoming it”. Considering this from a business angle, it’s best to lure in potential customers with temptation because it is much harder for them to overcome once the feelings have begun. Ex: You have a high chance of making a sale if you convince someone from the street to come into your store.

It’s important to operate from a systems thinking perspective. Understanding how emotional states can impact decision making and developing systems of operation in these high emotion states makes sense. Systems thinking helps avoid instant gratification and helps achieve longer term goals.

An example given by Ariely in a later chapter of the benefits of strict systems was when he gave students the ability to determine their own deadlines for paper submissions. They performed better under strict deadlines as opposed to more lax deadlines. This was because temptation fueled procrastination, a form of instant gratification and negatively impacted longer term goals.

Key to systems thinking – identifying weaknesses and developing strategies to overcome them. Taking a proactive approach rather than a reactive approach.

Ownership

One man’s trash is another man’s treasure. When someone owns something it tends to hold more value to them than it would to someone else. This was a particularly interesting part of the book. Ariely focuses on the innate human aversion to loss as a powerful emotion that drives decision making. The more that we invest in ownership of something, whether it be through money or work expended, the greater our emotional bond will be. This is important for understanding potential weaknesses and developing systems to compensate for these weaknesses.

Analysis Paralysis

Modern society provides us with a wealth of opportunities. We are not properly adjusted to handle such complexities in our decision making processes. This manifests in analysis paralysis and a general lack of decisiveness. Taking a systems thinking approach, it can be valuable to develop processes for handling significant optionality as it arises. Developing how to make a quick decision in the face of many options and stay the course without turning back to opportunities with diminishing value or “Doors of little worth”.

Fear of loss plays into this phenomenon of abundance. We have so many options that we grow afraid of losing them. It becomes an emotional anchor that weighs down on our ability to make quick and decisive decisions.

Setting Expectations

First impressions matter. How you look and how your business or work look matter. It’s very hard to overcome bad first impressions. Presentation matters. Packaging matters. That seemingly useless green garnish on the food at that fancy restaurant matters.

When you set good expectations, your ability to influence is greatly increased. This also allows people with established reputations to influence others. Ie: If I have a well loved friend and he vocally praises me to his network, that acts as a positive first impression for me.

If you label yourself as high end, you must not only talk the talk but walk the walk.

Placebos

There is considerable power in the act of suggestion. You can use the power of suggestion to influence people into perceiving reality in a certain and orchestrated way. If it looks like a duck, quacks like a duck, and the audience is told it’s a duck… then it must be a duck. Except if it’s really a goose.

Key drivers of this phenomenon are internal levels of confidence, faith, and trust in the procedure or authority. It is also possible to condition people to react a certain way based on the outcome of a preset process.

Cheating

Ariely remarks towards the end of the book that after all his experimenting he has observed that given the opportunity most people will cheat. Once they face the reality of cheating and believe they can get away with it, they do so. That does not mean that most honest people go overboard with their cheating. Simply that they will take minor liberties to gain an advantage for themselves.

This is an interesting observation and represents an opportunity for exploitation. If you give people a life cheat or some simple piece of information that they believe will help them cut corners they are more likely to use it. Therefore it makes sense to use this fact when designing hooks to lure people towards a sale. This is especially true when you catch an individual alone.

Concluding Thoughts

This was an excellent book. The information was both useful and interesting. I especially enjoyed the examples used to articulate some of Ariely’s finer points. I strongly recommend this book.

dougantin.com is a participant in the Amazon Services LLC Associates Program, an affiliate advertising program designed to provide a means for sites to earn advertising fees by advertising and linking to Amazon.com and affiliated sites.

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