One way to understand the collapse of the real estate bubble (and our current financial mess) is as a massive case of bad decision-making. The mistakes, of course, were made by many different people and organizations: the investment banks who bought subprime debt, the credit rating agencies who gave that debt high ratings, the mortgage brokers who gave out shady loans to people with bad credit, etc. But, in the end, the bubble really began when lots of people chose to buy the wrong home. They bought homes that were too big and too expensive, fueling an unsustainable boom in new home construction. They took our mortgages they couldn't afford.
Ap Dijksterhuis, a psychologist at Radboud University in the Netherlands (and expert on unconscious thought), has done some cool studies that look at how people shop for "complex products," like cars, apartments, homes, etc. and how they often fall victim to what he calls a "weighting mistake". Consider two housing options: a three bedroom apartment that is located in the middle of a city, with a ten minute commute time, or a five bedroom McMansion in the suburbs, with a forty-five minute commute. "People will think about this trade-off for a long time," Dijksterhuis writes. "And most them will eventually choose the large house. After all, a third bathroom or extra bedroom is very important for when grandma and grandpa come over for Christmas, whereas driving two hours each day is really not that bad." What's interesting is that the more time people spend deliberating, the more important that extra space becomes. They'll imagine all sorts of scenarios (a big birthday party, Thanksgiving dinner, another child) that will turn the suburban house into an absolute necessity. The lengthy commute, meanwhile, will seem less and less significant, at least when compared to the allure of an extra bathroom. But, as Dijksterhuis points out, that reasoning process is exactly backwards: "The additional bathroom is a completely superfluous asset for at least 362 or 363 days each year, whereas a long commute does become a burden after a while." For instance, a recent study found that, when a person travels more than one hour in each direction, they have to make forty per cent more money in order to be as "satisfied with life" as someone with a short commute. Another study, led by Daniel Kahneman and the economist Alan Krueger, surveyed nine hundred working women in Texas and found that commuting was, by far, the least pleasurable part of their day. And yet, despite these gloomy statistics, nearly 20 percent of American workers commute more than forty-five minutes each way. (More than 3.5 million Americans spend more than three hours each day traveling to and from work: they're currently the fastest growing category of commuter. For more on commuter culture, check out this awesome New Yorker article.) According to Dijksterhuis, these people are making themselves miserable because they failed to properly "weigh" the relevant variables when they were choosing where to live. Because these deliberative homeowners tended to fixate on details like square footage or the number of bathrooms, they assumed that a bigger house in the suburbs would make them happy, even if it meant spending an extra hour in the car everyday. But they were wrong.
Obviously, this don't address the mortgage issue, or why people took out so many subprime loans. (I blogged about that several months ago.) But I think they do demonstrate how people often make bad decisions when making important decisions, precisely because they assume that thinking more is always better. Conscious thought, however, comes with its own biases and frames and, when we're buying a home, those biases can lead to some big mistakes.
For more on the dangers of thinking too much, check out a few of Timothy Wilson's papers, especially this one.
Brain & Behavior
Comments (31)
Behavioral economics of this sort only seems interesting when it offers productive tips to rectify the mistake. So how do you get people to weight the commute time appropriately?
I don't think you've convincingly argued here, however, that the weighting is actually inappropriate. The people who wrote "Nudge," for instance, determine that people have made a mistake when they behave as though they've made a mistake -- e.g., they do something to correct it. Or, on the other side, they've made the right decision when they do nothing to reverse it.
That said, of course there will be reasons why people won't correct even obvious mistakes. You invest a large sum of money in a suburban house, and it becomes very hard to sell that house and move back into the city: your kids are now in school in the suburbs and have made friends, you now own an SUV that you can't park in the city, etc., etc.
But still: you need to convince me that *by their own lights*, these people have made a mistake in buying those houses.
Posted by: Steve Laniel | July 17, 2008 11:25 AM