I am a big fan of philosophy, as you might well be aware, particularly as it relates to money. Goodness knows, there are plenty of ways that our mental wiring affects how we use (or more frequently, misuse) money. From misunderstanding sunk costs to greatly overvaluing current funds to those available in the future (hyperbolic discounting).
Today, since I like this subject, we’re going to cover a few more ways that your mind might be messing with you. There are plenty of common logic mistakes that we all fall into from time to time, and knowing them will hopefully help us to avoid spending or investing money unwisely. Since we’re on the subject of ways our minds mess us up, let’s consider one of the ones that get most people into trouble…
Failure to Understand Statistics
The Problem: Too many people don’t have a good grasp on statistics. Particularly when the odds and the rewards start to get very big, there is a tendency to conflate them in your mind; 1 in 200,000,000 odds seem pretty reasonable with a prize of $200,000,000 on the line. Too few people reason out just how extreme those odds are; fewer still, it seems, actually let the odds guide their actions.
Examples: Pretty much anytime gambling comes up, there will be people misunderstanding statistics. Also, any situation where people devote more time and money to preventing high-impact, low frequency occurrences (like plane crashes) compared to more common but less ‘news-worthy’ disasters (like car crashes).
The Solution: Well, nation (and possibly world-wide) remedial education in statistics is one option. On the personal level, gaining an understanding of probabilities and a general sense of how likely various events are to occur will help you to prepare for the ones most likely to affect you in a reasonable manner. (As for gambling, just remind yourself that all the money needed to make those opulent casinos and employ all those workers (or run those nifty programs, for government sponsored lotteries) comes from people who don’t win; they can offer those huge cash prices AFTER paying all those costs because of all the money they take in.)
Blaming the Tool
The Problem: When something doesn’t go according to our plans, we usually try to protect our egos by finding something to take the blame. That’s why there’s a tendency to blame the tools we use (or quite frequently, don’t use) for our failures. It’s even an common English expression: ‘Bad Workers Always Blame Their Tools‘.
Examples: Weight loss videos don’t magically make you loss weight. Books don’t automatically make you smart. Most relevantly for our purposes, investment news letters and other sources of information don’t cause you to develop good money management skills by osmosis.
The Solution: With any tool, the key is that it has to be used, properly and often repeatedly. Understand that you need to put effort into using your tools if you want any success. Hard as it can be to face, your lack of success will more likely be your fault, rather than the fault of the tool. (Although, this is not to say that every tool you will use is a good, high-quality one; there are some faulty tools out there, of all types. But if most other people are having success with the tool you’re using, there’s a good chance that the problem is with you, not the tool.)
Faulty Pattern Recognition
The Problem: Not everything falls into neat, organized and predictable patterns. That said, sometimes, there are patterns in the events that make up our lives, and being able to recognize those patterns and respond to them in a reasonable manner is part of the whole ‘learning’ process.
Examples: Making the same bad investment decisions time after time. Making bad spending decisions repeatedly. Basically, every time you fail to learn from the past and continue to do the same actions.
The Solution: There isn’t really too much to say other than to learn from your experiences. Try to reflect on your experiences, both good and bad, to see if there are any lessons you can apply to the situation if you find yourself in it again. Better yet, try to learn from other people’s experiences; why should you do the same bone-headed thing as dozens of other people if you can possibly avoid it? In either event, the important thing is to be able to recognize similar situations so you can apply the lessons that you’ve learned.
Over-Application of Occam’s Razor
The Problem: Occam’s Razor is a powerful philosophical tool, stating that the simplest explanation is most often correct. The problem comes when you take it too far; reducing every situation to its simplest explanation can leave out valuable information. Not every single situation has the simplest explanation as the one and only cause, and attempting to reduce them leaves out valuable information.
Examples: The simplest explanation for crime is that people are evil. The simplest explanation for the moon landing is that it was a hoax. The simplest explanation for most everything is that ‘A Wizard Did It’.
The Solution: Remember that not every simplest explanation is correct; sometimes complexity is needed to explain the world correctly. Don’t automatically discount every theory that requires a sizable amount of explanation, and try to keep an open mind, to avoid falling into this logical trap.
There you have it, four more ways people tend to be illogical. Now, all you have to do is potentially change your brain to purge it of these flawed mental processes, and you’ll be fine, although that’s easier said than done, most of the time.