We have written previously about the decision-making process, and how and why individuals and groups make a decision, or assess a probability. No doubt, many of our readers will have read Daniel Kahneman’s fascinating book “Thinking, Fast and Slow”.
However, we thought we would return to the topic, because we recently came across a fascinating new paper entitled “How Are Decisions Made when Probabilities Are Not Available?”, published by two researchers from Germany’s well-regarded Max Planck Institutes, Timo Ehrig and Konstantinos Katsikopoulos. A key conclusion is that even ostensibly similar organizations, operating in supposedly the same environment, can have very different and even mutually exclusive decision-making processes, which may produce strikingly different outcomes from identical inputs in identical circumstances.
As obvious as the need to understand the topic may seem, apparently there has been little academic research into what financial professionals actually do when faced with making decisions that do not realistically lend themselves to risk modeling and tend towards uncertainty given all the interactions, contradictions and complexities which govern the real world. While the subjects of the study were investment bankers within an unnamed global financial institution and officials within an “influential” central bank, the results are clearly of broader relevance and potential application.
The researchers undertook a range of systematic interviews “in the wild” as they termed it, with a range of participants across both organizations as the means of eliciting information and testing hypotheses on dealing with both model and strategic uncertainty. Clearly, this was not the classic “double-blind” approach rightly beloved of scientists and the sample sizes were necessarily small. Therefore, the conclusions are open to challenge. However, the researchers’ counterargument was that their approach was as structured as possible given the purpose and subjects being tested, and that their findings are meant to be informative, not definitive.
One interesting, and perhaps unexpected conclusion, which may be of relevance when considering applying the study’s range of outcomes in the (re)insurance industry is that while many of the mental processes which the investment bank and central banks participants used to deal with uncertainty were similar or comparable, there were some processes which appeared exclusive to one group or the other. The most obvious example cited was the fact that the central bankers made significant use of drawing analogies, whereas the investment bankers did not. While it cannot yet be demonstrated why there might be this difference, it seems probable that it is based on the fact that central bank processes tend to be deliberative and collaborative, while in investment banks (notoriously!) they are usually fast-paced and combative. It is, thus, worth bearing in mind with whom one is dealing in negotiating a transaction because, even within supposedly the part of the same “culture”, there may be significant cognitive differences which need to be accounted for; and that making broad assumptions about the behaviour of people supposedly in the same industry may well be counterproductive.
In further posts, we shall explore in more detail the study’s conclusions, because they offer some fascinating insights into how financial professionals are able to function and deal with uncertainty without (one hopes!) being reckless, or alternatively suffering from decision-paralysis, an issue which can afflict large, complex organizations of all types.
Within Awbury, we try to ensure that decisions are made openly, swiftly and definitively; but we are well aware that being complacent is dangerous; so we study the available literature for ways in which to improve and challenge our own processes.
-The Awbury Team