Introduction
Let’s say you would like to get on board with a green-deal because you have been missing your sustainability goals for consecutive years. However, your entire operations are not designed to do so. Or, that your are the owner of an IT business that wants to scale up after five successful years of unprecedented growth in a bull-market. What decision will you make, and what are the factors that you take into consideration? And what are the hidden mechanisms influencing your arguably, smart and thought-through, decision.
Behavioral economics as such has become popular among leaders, politicians and people in the field of business in any sense. Barack Obama applied nudging to many of his policies. The popularity of this field is further emphasized by the fact that Richard Taler won the nobel prize in 2017 because of his major contribution to society. In one of his papers, I found a reference to the article we are discussing today: “Deal or No Deal? Decision Making under Risk in a Large-Payoff Game Show.
What is the subject of research?
This paper offers an experiment with the ultimate objective to learn how people approach risky choices concerning lifetime wealth. In the TV show “Deal or no Deal” which was broadcasted in the Netherlands, Germany and the US, contestants enter a “knock-out” system of 9 rounds in which they would eliminate some of the 26 briefcases with envelopes ranging from from just one or a million dollar. To give you a brief impression of how a show like this proceeds, here is a video:
https://www.youtube.com/watch?v=O13cjtMSiq4
What did the authors discover?
In this paper, it became apparent that the people who participate in the show do not make rational decisions based on the choice at hand. Instead, the choice they make is massively influenced by the outcomes of the rounds prior to the event. Like you can see in the video, Ritchie must have thought that luck was on his hand to proceed to the last round with still the opportunity to take it all. A significant detail is that his mom appears to be the most reasonable by mentioning that if he had this opportunity to take this bank offer before the game, he would always take it. By having experienced great luck with risky choices in previous rounds, Ritchie ultimately ends up going home with a whole lot less.
The authors talk about path-dependence. This means that either your good or bad luck in the last few rounds plays a bigger role in your next decision than was previously assumed in economics. Two interesting phenomena are “the break-even effect” and the “house-money effect”. The break-even effect explains how people tried to get back to a favorable outcome when the first outcomes lead to disappointment. In this case, people become less risk-averse. It’s similar to visiting a casino on Fridays with your friends to find one of them spending an extra $100 because he just lost said amount and wants to win it back to break-even. A 6-year old could argue that this is a stupid decision.
The house-money effect describes how people make decisions with money that feels like it is not their own. We all have that friend who sold his first house and re-invested the gains in a golden toilet-seat or a Tesla with an ice-cube machine. I’m not judging the decision, but I wonder if they would make the same choice if they had painstakingly worked over-hours for that money.
Why should sales representatives and leaders understand this?
If you as a company, as a team or as individuals are concerned about the well-being of your clients and your own business, keeping this information in mind can provide crucial in delivering to them in the long-term. As I have been speaking to many sales representatives over the last couple of years I increasingly discover that people find it difficult to observe their own decision-making process, as well as the decision-making process of their prospects.
Knowledge about prior experiences in big decisions about yourself and prospects gives you that edge to tune in and understand the consequences that has for the decision at hand. Like the examples in our introduction you could expect the senior members of the MT to be reluctant to take significant risks when their entire career has been dedicated to creating shareholder value instead of positive societal impact. On the other hand, we might expect his colleague in the IT business to be high with confidence to be risk-seeking and thus easily swift into a new adventure.
Last week I spoke to a sales representative who told me he has the laziest job in the world. He helped his clients like they were his friends at the beginning of his job, now each month he exceeds his targets with zero efforts because they keep coming back. Moreover, I’m not saying you should exploit the outcome of this paper, rather approach it as your opportunity to co-create a favorable outcome.
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Important notes
Full credit goes to Thierry Post, Martijn J. van den Assem, Guido Baltussen, and Richard H. Thaler as the authors of the original paper. The one-and-only aim of this paper is to further promote it’s content to a wider audience. For the original paper please visit: https://www.aeaweb.org/articles?id=10.1257/aer.98.1.38
About the author
Bram van Kleef is a consultant in the field of sales operations @ VanKleef/Andersson and is located in Amsterdam. He holds an MSc in Business Administration: International Business & Marketing from Kristianstad University in Sweden. For inquiries: bram@vankleefandersson.com
