Everyone Is Irrational

Irrational Behavior

As a father of two young children, I think I know a thing or two about irrational behavior. For example, morning might begin with my youngest daughter requesting cereal for breakfast. But it has to be in the orange bowl because the white bowl, which is a perfectly good bowl, just isn't going to cut it. Oh, and she needs the spoon with the rounded stem. Because it's her lucky spoon. Never mind that it's dirty and currently in the dishwasher.

What I've described above may explain why, upon arriving at my office, I've come close to using the wrong dispenser on several occasions. That's because the fruit-infused water and beer dispensers are right next to one another. I've received some strange looks from my office mates when almost pouring myself a beer before
9AM. I think it's just my brain working against me after a sometimes exasperating, yet hilarious, morning routine.

Okay, back to this week's topic.

But First, A Quote

As I mentioned last week, I'm listening to The Undoing Project: A Friendship That Changed Our Minds by Michael Lewis. The book contains a great quote from psychologist Amos Tversky as he's speaking with an economist:

"All your economic models are premised on people being smart and rational, and yet all the people you know are idiots."

Why I Love That Quote

While in school, I learned about many models and theories that never really made sense to me. This was especially true of the time spent in business school. I'd often listen to a professor's lecture and become frustrated by anything that assumed people or investors were rational.

Here are two examples:

  • Rational Choice Theory assumes individuals always make prudent and logical decisions. I don't know about you, but I don't know anyone that's rational all the time. That includes me!
  • The Efficient Market Hypothesis (EMH) states that it's impossible to beat the market because stock market efficiency causes existing share prices to always reflect all relevant information. The problem I have is the EMH assumes:
    • All information is available to the market and its participants,
    • Stocks follow a random walk, and
    • All investors are rational.

I think we can agree all investors aren't rational.

Why Create Economic Theories or Models?

Despite my frustration with many economic models and theories, I believe there's value in trying to understand how our markets function and why people behave the way they do. It's just important to compare the theoretical models against the real world.

Change Your Password!

In case you missed it, Yahoo! was hacked again this week. Take a few minutes to change your password if you haven't already done so.

Listening / Reading / Watching

Here's the only thing that matters this week:

  • I am going to see Rogue One tonight.