Category Archives: Daniel Kahneman

Critique of Daniel Kahneman – Decision Making Theories

That’s a very bad heading but I could not think of anything else .

What is evil — “ Evil is Knowing Better but doing worse “

Mr. Daniel Kahneman(the nobel winner) is one the most amazing   thinkers of modern era who has just completely changed the way we look at the world and the decisions taken by people in the world. His brilliant book(http://www.amazon.com/Thinking-Fast-Slow-Daniel-Kahneman/dp/0374275637 )  is a 20 times read. You can just keep reading again and again and again – discovering new things every time you do that. It makes you understand why probably you took a decision when ideally/rationally you should not have done so. So why the critique post ??

Well having read the brilliant book Thinking Fast and Slow by Mr. Daniel Kahneman I noticed something strange in every single question he had ever asked for framing his theories mostly related to monetary gambles/chance/risk taking . They  will NOT  apply completely to the thousands of Bankers, Traders, Lenders, Insurance Sellers(who are or should I say were too big) –who are taking decision under risk . The reason the theories will NOT apply is NOT because decisions are complex or theories completely wrong or they are using System 1 instead of System 2 but because the crucial elements (situations/conditions) are almost always neglected in almost all questionnaires for any psychology/logic tests undertaken by any researcher.

I searched for various of his articles and the references he himself used for writing those and  I could not find the most important factors which affect decision making under risk in real life organization/situation .

The choice of picking a decision using rational calculations or System 1(intuitive) based on prospect theory or whatever is secondary to the conditions surrounding the decision making. The conditions surrounding decision making are NEVER extraneous or too unimportant in real life.

This analysis will look at the financial risk taking while showing that  prospect theory(http://en.wikipedia.org/wiki/Prospect_theory)  cannot explain the decision making in financial world today when complete picture of conditions which leads to reckless risk taking is taken into account i.e. the incentives (bonuses), Superiors’ orders, managing other peoples’ money, too big to fail and implicit guarantee from all Central Banks around the world that you will be saved even if you completely screw up (the whole firm or consequently even the economy).

I would love if Mr. Daniel Kahneman applies all his theories of decision making to the bankers and financial industry as we know today to show how effectively it predicts the actual actions of these Lords of Finance. I am sure the theories cannot be applied to decision making of bankers which have brought terrible misery to millions around the world and amazing riches to bankers and financial institutions.(if you do not believe this stop reading!!)

I argue that what happens in REAL world more than 99% of the time when real people (almost all in some sort of organizational set up) are taking real decisions in organizations which can be observed by anybody is not explainable completely by theories like prospect/certainty effect/loss aversion/utility/System 1 or 2,  etc.

I am not a professor who can catch 50 students and give them a sheet of paper with 5 logic questions (each with 2 choices) and then extrapolate them to real life decision making. I will ask the same questions which have been asked in the book Thinking Fast and Slow  at the end of the write up. The only difference will be – I will use context/surrounding events before anyone has to decide which option to choose. The responses I am sure will be exactly normal as what happens in real life but the responses will violate most of the existing theories regarding decision making under risk.

Read the rest of this entry

Advertisements