Two very curious psychological phenomena have been whirling around in my mind when I started to see how much of human behavior might be explained by them. The first is the concept of “loss aversion”, which explains we often act in ways that minimize our expected losses rather than maximize our expected gains. The second phenomena are self-fulfilling prophecies. And interestingly, these may be related.
Why is that one who loses $100 will lose more satisfaction than another person will gain satisfaction from a $100 windfall? I might have some ideas that explain why we are this way, but simply being aware of this curious psychological phenomena is probably most important. Look around and ask whether you think this phenomena can explain the human behavior, and I think you still start to see how well it explains a ton of behavior. Loss aversion might explain why we do not ask for promotions if we fear that such being denied such a request might result in a damaged reputation within the firm. Loss aversion might explain why we do not ask people on dates if our minds know subconsciously that we could end up feeling less confident about ourselves if the person says no; and this is even amidst the fact that our ego would probably grow by a far greater magnitude if the person said yes.
How often do we fear something happening, and then–out of this fear–act in such a way that then leads to that thing actually happening?! Take for example, a person who fears that his/her lover is cheating on them. This person then starts to act in a very insecure way. The person starts to ask all kinds of weird questions, in weird ways, maybe starts acting weird too. This then leads to the person’s lover becoming disenchanted by the person and then actually cheating or breaking off the relationship, which is what the person feared to begin with. I find this incredibly ironic and, at first, very saddening.
Feelings and emotions make us humans interestingly complex, thinking creatures. In a recent conversation/interview with Charlie Rose, Warren Buffet said:
That feeling can create its own reality.
The topic for Buffet and Rose’s conversation happened to be the U.S. consumer sentiment, and consumer’s faith and belief in the U.S. financial system. Here the self-fulfilling prophecy to which Buffet was referring, would be the consumer’s fear that the banks were not trustworthy and that they would fail, which would cause many consumers to pull their money from the bank, which would then lead to the bank actually failing. This is another example of how our feeling scared of something leads to behavior that ironically causes that thing to actually happen. This realization had me pretty scared and saddened until I read an article that featured positive psychology ideas from Ryan Jacoby. I then realized that self-fulfilling prophecies can work in the opposite manner as well. For example, if I believe that what I want to happen, will happen, I will behave and act according to this belief, thus leading to the desired thing actually happening. Take the bank run story, for example. If we believe that the banks will not fail, then we will leave our money in the bank, and we won’t cause a bank run, which would cause the banks to fail. If we believe our lover is not cheating, we will act trusting, normal, and loving, and our lover will have no reason to seek companionship from someone else.
Can “loss aversion” explain economic recessions?
Citing the U.S.’s rapid recovery from 1930’s depression, Buffet says the American economic system works very well, but we will have have recessions (we have had ~15 of them since the Great Depression). This got me thinking…Are our economic recessions also the result of human behavior and the psychological phenomenon whereby wealth is created and then because people fear the loss of this newly acquired wealth, they withdraw or reduce investments, which then slows down the economy because it inherently means taking money/capital out of the economic system?