10 biases that affect our decisions (and how to avoid them)

Rational decision makers are essentially human calculators.

When faced with a choice of ice creams to eat, they will weigh up the benefits and costs of each flavour. Then they conclude which flavour gives the highest utility.

But in practice, humans may deviate from “rational choices”.

There are “cognitive biases” that can influence our behaviour.

By understanding and engaging with these biases, we may be able to improve our decisions.

So, understanding biases is key for any decision making. Whether it’s personal finance, career choices, business or any choice.

Below, I investigate ten cognitive biases from behavioural economics.

What are they? How do you avoid biases? And should you even avoid these biases at all?

Contents

1. Default bias

Default bias is a tendency to prefer the standard or default option when making a decision.

An example is with banks.

Consumers are very likely to stick with their bank, even if another bank offers a higher interest rates on savings.

In 2022, there were 986,959 bank account switches in the UK. In other words, only 2% of adults switched their current account provider in that year, a very low percentage [source: wearepay.uk].

This presents an opportunity for firms to take advantage of default bias. Some businesses, knowing their consumers are likely to stick with them, are less likely to cut prices and more likely to raise prices for this group.

These practices can harm consumers. So competition authorities have investigated “loyalty penalties” in various industries. This includes tech subscription services and energy.

Similarly with free trials of products. Once you are using the product, you are more likely to want to stick with that product. This makes you more likely to buy later on.

Solutions to default bias

Solutions to default bias may include:

• Practise quitting default options where a) it makes sense to do so and b) there are no or little consequences.
• Talk to people who have changed from the default option. A different perspective can help understand the reasons to change. Whether this is a default career path or a lifestyle change.
• Find ways to reduce the cost of switching options. This can be the monetary cost or the time cost. For example, start off by switching to a similar product.

But what appears as “default bias” may be rational. For example, there are costs, either monetary or time costs, to switching company. There may also be other reasons not to switch, such as good customer service or other desirable qualities of the product.

Also defaults matter into the future.

de Haan and Linde (2018) show that facing a series of “good” defaults strengthens the degree of default bias. Here a “good” default means the option with the best outcome for the agent.

But curiously, the opposite is not necessarily true of a random default option that did not necessarily relate to the best outcome.

Hence, policymakers and businesses should know how good defaults affect future behaviour. But consumers should be aware of the potential for manipulation across choices.

2. Confirmation bias

Confirmation bias means people look more for information that supports their existing beliefs.

Suppose someone thinks there should be more government spending on education. That person is more likely to look for and accept as true information that supports this view. But they are more likely reject information that goes against this view.

It is reasonable to update beliefs based on new information (“Bayesian updating”). But confirmation bias creates an inefficient, asymmetric updating process. This can lead to false beliefs about the world.

Some possible solutions to this bias are:

• Seek opposing views. For example in politics, listen to viewpoints you may not agree with, at the very least to test your arguments.
• Be aware of who you’re surrounded by and what you watch / listen to. Think about how this may affect your views.
• Find facts that may challenge your views. You can even play devil’s advocate, trying the opposing arguments on others.

But confirmation bias will be difficult to eliminate. It is very tempting to choose to consume content that supports our current views.

Moreover, social media algorithms may recommend content based on past consumption. In other words, social media can reinforce confirmation bias. This removes the opportunity to view opposing information and creates “echo chambers“.

3. Present bias

Present bias means attaching too much importance to the present and too little importance to the future.

Those with present bias are more likely to choose options with short-term satisfaction but are damaging in the long term. For example, not exercising or eating unhealthy food.

Note a long-term view can be important in business or investing decisions. Shareholders, in some circumstances, may encourage firms to pursue short-term profits. Businesses often have quarterly targets to reach.

However prioritising immediate benefits may harm the company in the long run. A short-term view may reduce investment and future innovation.

In addition, present bias can contribute to personal financial difficulties. This includes not saving and/or investing enough to retire.

Present bias also affects group outcomes.

Under some circumstances, present bias can delay volunteering. For example, where the volunteering act comes with delayed benefits or costs (Shi 2022). This partially contributes to why some groups may book holidays at the last minute, rather than booking them well in advance.

How to avoid present bias:

• Write down long term goals. This will help with thinking towards the longer term.
• Restrictions. By blocking distractions, such as websites, you may be more productive and more likely to achieve your future goals.
• Automation. Taking a fixed amount of money out of the monthly pay check to go towards saving would be an example of this.
• Accountability partners. A friend or colleague who can check whether you are meeting your own goals or not.

Can present bias improve outcomes?

Note present bias may be desirable to some degree. It allows people to focus on the present. People can be more flexible rather than being fixed by long-term future goals.

Even in the volunteer example, present bias can improve outcomes. For example, present bias can bring forward volunteering in a group setting (Shi 2022).

Suppose you are working on a group project with another person. One of you has to present the project. Suppose also that you know the other person is very present biased and would likely delay presenting forever. Then that may force you to do the presentation to get it out of the way. Without the present bias, there could be greater delay, as both group participants wait on the other one to present the project.

So in our individual lives, accounting for present bias may help improve decisions and outcomes. Broadly this can occur at the group level too, with some exceptions.

4. Survivorship bias

Survivorship bias means putting too much weight on things that succeed (“survive”).

For example, many of the companies we observe today are successful. Google, Apple and Meta are all successful companies. Yet there are many tech companies that fail – they just simply are not around today.

When investing in a tech company, investors should consider the large probability of the company failing.

In the UK, approximately 60% of startups fail within the first three years (source with further analysis).

Similarly with entrepreneurs. We observe success stories of famous entrepreneurs. But we do not see the many failed entrepreneurs.

If we only look at entrepreneur successes, we are likely to overestimate the chance that we can also become a successful entrepreneur.

Solutions to survivorship bias can include:

• Look at data! In this case, look at the success rate / failure rate data.
• Look into examples of failures. Examples can help us remember the failures and avoid survivorship bias. In the tech world, some larger failures include Blackberry (phones) and more recently, Theranos (health tech). But there are also lots of smaller tech firm failures, that we have never heard of.

There may be something to learn from the survivors though, namely why did they survive?

For example in business, why have successful businesses succeeded, where others have failed?

5. Anchoring bias

Anchoring is where a reference point (the anchor) affects someone’s choices.

Suppose you want to buy a T-shirt from a street vendor.

You ask for the price – they say £25 for one shirt.

After some negotiation, you get a £5 discount. So you end up paying £20 for the shirt.

This sounds like a well-performed negotiation, right?

But what if I told you the shirt cost £5 to make? Also, the same shirt is sold in other places for £10.

Then £20 for the shirt is no longer such a good deal.

What happened? The seller set an anchor of £25 for the T-shirt. This anchor then influenced the buyer’s belief and future negotiations.

Imagine instead if you knew the price of the T-shirt at other shops was just £10. Using this different anchor, you would probably negotiate a lower price.

Therefore, in this example, a seller can use anchoring to raise revenue. But a consumer can face a higher price as a result of this anchoring.

Anchoring influences all sorts of decisions, such as:

• The buying and selling of houses.
• Annual salary negotiations.
• Non-financial choices. For example, how you decide to raise a child may depend on how you were raised a child. If you watched lots of television as a child, your children could also be more likely to watch TV.

So negotiation scenarios are where anchoring usually appears.

How should you prevent the anchoring bias?

1) Change the anchor. In price or wage negotiations, you can introduce another anchor. For example, the price of the good in another shop or the industry average wage. This can change the negotiation in your favour.

2) Be aware of anchoring in any negotiation. Just being aware of the anchor may help to attach less importance that number.

Note sometimes an anchor can be useful. We have limited time and limited ability to store information. A mental shortcut may help save time and deliver a reasonable outcome.

Curiously, anchors can vary between people. Cultural differences or differences in values can explain differences in the size of the anchoring effect (Kakinohana et al. 2022).

6. Availability heuristic

The availability bias is:

when people look to recent examples, or easier-to-recall information, when making decisions.

A “rational” decision maker would rely on all information.

For example, news stories about shark attacks or plane crashes may lead some to overestimate the probability of such events. But in reality, the probability of these events is low.

In the plane example, this leads people to conclude that cars are safer than planes. Whereas in reality, often planes are safer than cars for travel.

Some solutions to availability bias could include:

• Look into statistics, e.g. the safety of plane vs car. Extend the sample size back in time too.
• Be aware of the sorts of situations where availability bias may appear. For example, when estimating probabilities or risks of bad outcomes based on recent events.

Note it can be useful to take on board new information and updated probabilities accordingly. This is indeed rational, so getting rid of availability heuristic may not be ideal. But instead, examine where availability bias goes too far and try to take that into account when making decisions.

For more on availability, see the site Simply Psychology on the availability heuristic, linked here.

7. Loss aversion

Kahneman and Tversky (1992) found losses have twice the effect, psychologically, compared with gains. This is loss aversion.

For example, the pain of losing £10 is more severe than the joy of winning £10.

Businesses may play on consumers’ worries or fears to boost demand.

For example, a business could set a deadline before sales of a product stop. This may motivate consumers to buy before the deadline, to avoid the fear of missing out on the product.

Also many tech companies (including software as a service, or SAAS, companies) provide free trials for software.

Once you have signed up to a free trial, you have temporary access to the software. You are less willing to lose access to this software due to loss aversion.

Hence you are more likely to continue to pay for the product after the trial.

Possible solutions to loss aversion can include:

• Grouping gains and losses by looking longer term. Suppose you lose £10 today but gain £10 tomorrow. Looking at this overall, there is no change in your wealth, so your utility does not change. But if you view these separately, then the £10 loss hurts more than the £10 gain, leaving you worse off overall.
• Alter the framing. Suppose you do not buy a product, so you feel like you’re missing out. But think about what you gain from this – an extra bit of money or time that you might put towards a particular goal. This could be buying another product, investing or saving e.g. for a house. Now, missing out on the product does not seem so bad.

Note that loss aversion may be helpful in some instances.

There may be evolutionary reasons for loss aversion. People who take fewer risks may be more likely to survive, for example.

8. Dunning-Kruger effect

Dunning-Kruger effect: the overconfidence of people with low expertise in their performance in a particular task.

An example is when you first start learning a musical instrument, like the piano.

Consider someone who has just started learning the piano. Owing to a lack of knowledge about high-level techniques, they may consider themselves highly skilled already. In other words, a piano novice does not know what they don’t know.

Take a piano expert. While they have more knowledge, they may be less sure about their abilities. They are also more likely to be aware of what techniques are out there, that they still have not learnt. Experts are more likely to be aware of what they do not know.

The Dunning-Kruger effect allows fake news to spread more quickly on social media.

Also it can lead to poorer hiring choices for companies. Companies may hire someone based on confidence. But their confidence may not necessarily translate into competence.

But the Dunning-Kruger effect has its upsides. Ignorance of bad events could improve happiness. Overconfidence can help motivate people to achieve unexpected results.

To the extent that Dunning-Kruger effect is a problem, what’s the solution?

1) Be modest about what you do not know. Another way to see this is to be aware of the Dunning-Kruger effect.

2) Seek the views of experts. While experts can be wrong too, it is worth considering their views seriously.

3) Learn more about the task! Being better informed is likely to improve task performance.

Note the Dunning-Kruger effect is about lack of expertise in a particular task. So a doctor may be know a lot about various conditions and treatments. But they may know less about how the economy works. Experts in one field can mistakenly believe their expertise extends to other areas beyond their expertise.

Brief note: controversy around the Dunning-Kruger effect

The Dunning-Kruger effect is controversial, with some studies finding no such effect or other explanations for the effect. One potential issue is that there are “bounds” or “floor effects” (to the skill level someone could have (Krajc and Ortmann 2008).

Imagine skill in a topic area is ranked on a scale of 0 to 10. 10 being the most competent.. Someone’s actual skill could be 0 or 1 out of 10, a very low skill. Yet ask that person to estimate their skill out of 10. Then it’s very unlikely that they underestimate it. Their estimate cannot go negative.

Dunning et al. (2013) reply to this contention is here. In general, researchers seem to find many instances of the Dunning Kruger effect. But we should at least be aware of possible statistical issues in investigating each such instance.

9. Bandwagon effect

The bandwagon effect or “social norms” means that individuals follow the choices of others. In other words, they follow the crowd, whatever their own personal beliefs.

Consider “keeping up with the Joneses”: buying goods like a nice car or a house to stick to the social norm of people around you.

Another example is in careers. Following a university degree, there may a standard career path that most people follow. In the case of economics degrees, graduates often go into investment banking, consulting, public sector or think tanks.

But there are so many other possible career paths. There is no need to constrain yourself based on what others do.

Companies can suffer from “groupthink“. Company managers learn from each other, so end up thinking the same things. Hence decisions do not face enough challenge, leading to poorer outcomes.

So, how can we get over the bandwagon effect?

• Evaluate decisions based on your own criteria or metrics, rather than relying on others’ thoughts. Make a list of pros and cons. Alternatively, consider worst and best case scenarios. For numerical decisions, use a spreadsheet or make some rough calculations.
• Look for communities or individuals that do not conform to the social norm. This could be in scenarios like making friends or hiring people for a business. But also reach out beyond any existing groups or business.

10. Framing

Framing: how a choice is presented influences the decision.

Some businesses provide consumers with three options. A cheap option, a middle option and a high cost option. The options push the consumer towards a costly middle option, which is made to look reasonable. This is common in software-as-a-service (SAAS) businesses and coffee shops with drink sizes.

Other ways that businesses have changed the framing include:

• Some sellers offer “free shipping” when the total order value reaches above a certain amount, say £50. This incentivises consumers to increase their order value, by adding more products to cart, to reach he £50 level.
• Displaying reviews next to a product uses the bandwagon effect or social norms to boost demand.
• Annual membership prices are stated in terms of the monthly payment amount, for example gym memberships. £30 per month looks cheaper than £360 a year, even though they are the same amount. This makes consumers think they are more likely to be able to afford to buy the membership.
• Pricing goods at say £4.99 rather than £5 may make consumers perceive the good as significantly cheaper. Consumers may be likely to think about the first (left-most) digit e.g. 4 vs 5.
• A company can explain the consequences of not having their product, for example with insurance. This takes advantage of consumers’ loss aversion to boost sales.

An entrepreneur can see this as an opportunity to increase demand. Yet a consumer can use this information to be wary of framing and not purchase things that they wouldn’t have bought, if not for the framing.

So how should consumers account for framing?

First, notice framing and its intended outcome. There are many common “frames” like the ones above. So just realising the framing is a good start.

Then, adjust the wording to see if it changes your decision. For example, try thinking of a yearly gym membership in terms of its yearly cost, not its monthly breakdown.

If competitors are available, you can compare prices to competitors to check for value.

But framing may help consumers in some cases. Reviews may make the value of a product clearer to consumers. Businesses can also think of framing as communicating the benefits to consumers.

The better informed the consumer about the key benefits of the product, the more likely the consumer is to make the right choice for themselves.

Are biases a problem?

Some of these biases can prove a problem, leading to worse decisions and outcomes. Consumers may be stuck on a default bank or brand, when one with better value exists. I have demonstrated above some problems that biases can cause.

But there are many reasons why “biases” may not be so problematic.

Note altruism, being selfless rather than selfish, can be painted as a bias. Yet in fact humans are often altruistic. We can argue that “biases” are just a feature of how humans behave. Biases need not be “suboptimal”, despite the term “bias” having a negative connotation.

Biases can also counter each other. Fear setting, instead of goal setting, can improve the likelihood of achieving longer-term goals. Fear setting uses loss aversion to counter present bias.

So removing one bias, without eliminating the other, could make people less likely to achieve certain goals.

How do you avoid biases? A summary

There are several biases that influence human decision-making.

Key biases include confirmation bias, default bias and present bias. But there are lots of others too.

Businesses, by changing the framing to exploit consumer bias, can increase sales.

Governments can frame decisions to improve welfare.

Consumers, by being aware of biases and manipulation attempts, may be less prone to fall for such changes in framing.

In general, to counteract biases:

1. Be aware of biases and statistics when making decisions.

2. Get feedback from different people, including those from outside your usual circle of friends, on important choices. Different perspectives may reveal biases.

3. Do your research!

Biases are hard to avoid. In some cases you cannot avoid them.

Indeed you should be aware of overcorrecting for such biases.

Related questions

Are cognitive biases bad or harmful?

A lot of biases can be unhelpful.

Confirmation bias and the bandwagon effect accelerate the spread of “fake news“.

Also, present bias leads people to give in to temptations and forgo healthy actions.

But cognitive biases are not necessarily bad or harmful.

For example, framing can help consumers become more aware of the benefits and drawbacks of each product. So consumers can make better decisions.

What is a rational decision maker?

Rational in economics means preferences have two key properties:

• Complete – take any two options (option A and option B) that someone can choose between. That person must be able to have a preference over those two items: either they prefer A to B, prefer B to A or are indifferent between the two.
• Transitive – there are no preference “cycles”. Suppose someone prefers option A to option B, B to C and C to A. This is a cycle and violates transitivity. So this would not be a “rational” preference.

So in an economics context, “rational” is not necessarily a good or bad thing.

The biases above are deviations from this economic version of rationality. But that does not make biases necessarily bad either. Biases can even be helpful in some circumstances.

This may be different from the common definition of rationality outside of economics. Rationality generally means making logical decisions.

A disclaimer: other factors, apart from biases, will affect choices. Consider other factors, apart from biases, in making decisions.

Related posts

The economics of giving gifts

How did Amazon grow so big? | 4 key economic factors

Will robots take our jobs? What economists say about AI

​What economic theory says about immigration

Why Goldin won the Economics Nobel Prize | 5 Key Takeaways

Key “marginal” economics equations and how they apply to the real world

How economics uses statistics

Link to blog.

Link to nudge policy notes (for students).

References to academic articles

de Haan, T. and Linde, J. (2018), ‘Good Nudge Lullaby’: Choice Architecture and Default Bias Reinforcement, The Economic Journal, Volume 128, Issue 610, May 2018, Pages 1180–1206. Link

Dunning D., Kruger J., Johnson K.L. and Schloesser T. (2013), “How unaware are the unskilled? Empirical tests of the “signal extraction” counterexplanation for the Dunning–Kruger effect in self-evaluation of performance”, Journal of Economic Psychology, Volume 39, December 2013, pages 85-100. Link

Kahneman and Tversky (1992), “Advances in prospect theory: Cumulative representation of uncertainty”. Journal of Risk and Uncertainty. 5 (4): 297–323.

Kakinohana R.K., Piati R. and Klein R.A. (2022), “Does anchoring vary across cultures? Expanding the Many Labs analysis”, European Journal of Social Psychology / Volume 53, Issue 3 / pages 585-594. Link

Krajc, M and Ortmann, A. (2008), Are the unskilled really that unaware? An alternative explanation. Journal of Economic Psychology, 29(5), 724–738 Link

Shi, Y. (2022), “Dynamic Volunteer’s Dilemma with Procrastinators”, Working Paper of the Max Planck Institute for Tax Law and Public Finance No. 2022-17. Link

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