1. BA105-1: Organizational Behavior Guest Lecturer: Jennifer Kurkoski Week 9 Decision Making

2. 2 Agenda Today: Decision-making –Individual-level models –Biases in decision-making –Group-level models Thursday –Case: “The collapse of Barings”

3. 3 Some classic decisions -OR-

4. 4 Somewhat more complicated decisions I’ve got three terrific candidates. Who should I hire? This person’s performance has been mediocre but not awful. Do I fire him? Which product line has the greatest promise for growth? Should we acquire that hot new start-up?

5. 5 A little closer to home … Where should I go for spring break? Which classes should I take? Which job should I accept? It’s Friday night. Should I study for a few more hours or get a good night’s rest so I can get up early and start my paper tomorrow?

6. 1. INDIVIDUAL-LEVEL MODELS

7. 7 The classical (rational) theory of decision-making Assumptions You know all the possible choices in advance You know all the possible consequences of all the choices You have a utility function that ranks the consequences from least- to most-preferred Outcome You make the choice that maximizes (optimizes) your utility function

8. 8 Multi-attribute utility analysis: Picking a job ExperPayPlaceWkloadTravel Preference weights (w i ):0.380.260.160.120.08 = 1.00 Scores (s ij ) from 1 -10 of your alternatives on each dimension: UTILITY* Big 50.90.8 0.7 0.2 0.3 0.710 Dot.com1.00.7 0.9 0.8 1.0 0.826 Local bank0.30.5 0.1 0.1 0.4 0.304 Decision: take the Dot.com job *U j =  i w i s ij

9. 9 Rational decision making under uncertainty –DM knows consequences of choices with certainty –DM knows risks (probabilities) of consequences of choices Solution: Maximize expected utility  j p j U j –DM knows the possible consequences of all choice but does not know the probabilities Minimax solution: make the “least-worst” choice

10. A decision-tree analysis of the expected utility of buying computer insurance ChoiceOutcomeProb. of Value of Outcome stolen (-3500) not stolen ($0) stolen (-$3500+3450) -$100 -$50 -$3500 $0.01.99.01.99 -$50.00 -$35.00 Computer cost = $3500.00 Insurance cost = $ 50.00 Deductible = $ 50.00 Expected Value or Utility BUY DON’T BUY -$1.00 $0.0

11. 11 The behavioral model (James G. March, Herbert Simon) People are “boundedly” rational. They have: Limited time and resources Limited awareness of decision alternatives Limited awareness of consequences Limited information-processing capabilities Even limited awareness of their own preferences Given bounded rationality, decision-makers do not optimize; the best they can do is “satisfice”

12. 12 Steps in making decisions 1.Figure out your goal(s) 2.Evaluate the importance of each goal 3.Array the options 4.Evaluate how likely each option is to meet your goals 5.Pick the winner 6.Later, use the consequences to modify your goals, their importance, and how you’ll evaluate future options From The Paradox of Choice, by Barry Schwartz

13. 2. BIASES IN DECISION- MAKING

14. 14 Which do you choose – v1 Imagine that you are a physician working in an Asian village, and six hundred people have come down with a life-threatening disease. Two possible treatments exist. If you choose treatment A, you will save exactly two hundred people. If you choose treatment B, there is a one-third chance that you will save all six hundred people, and a two-thirds chance that you will save no one. Which treatment do you choose, A or B?

15. 15 Which do you choose – v2 Imagine that you are a physician working in an Asian village, and six hundred people have come down with a life-threatening disease. Two possible treatments exist. If you choose treatment A, exactly four hundred people will die. If you choose treatment B, there is a one-third chance that you no one will die, and a two-thirds chance that everyone will die. Which treatment do you choose, A or B?

16. 16 Heuristics and biases in decision making ( Kahneman & Tversky) People are imperfectly rational. They rely on heuristics (cognitive rules of thumb) to guide or simplify or routinize decision- making Over- or improperly-used heuristics can bias or distort decision-making

17. 17 Danny Kahneman – 2002 Nobel Prize in Economics

18. 18 Prospect Theory

19. Risk aversion or tolerance (Kahneman and Tversky, 1982) People are risk averse with respect to maintaining gains but risk seeking with respect to avoiding losses; in other words, losses loom larger than equivalent gains.

20. Decision making heuristics The availability heuristic: People assess the frequency, probability, or likely causes of an event by the degree to which instances or occurrences of that event are readily “available” in memory.

21. 21 Which one of these is most likely? 1. H T H T T H 2. H H H H H H 3. T H T H T H

22. Decision making heuristics The availability heuristic: People assess the frequency, probability, or likely causes of an event by the degree to which instances or occurrences of that event are readily “available” in memory. The representativeness heuristic: People assess the likelihood of an event’s occurrence by the similarity of that occurrence to their stereotypes of similar occurrences. Anchoring and adjustment: People make assessments by starting from an initial value and adjusting to yield a final decision. The initial value, or starting point, may be suggested from historical precedent, from the way in which a problem is presented or from random information.

23. 23 Confirmation and hindsight bias Confirmation bias –People seek confirmatory information for what they think is true and neglect the search for disconfirmatory evidence Hindsight bias –After finding out whether or not an even occurred, people tend to overestimate the degree to which they would have predicted that outcome

24. 24 Heuristics may be learned responses to decision situations A decision is a response to an environmental stimulus (e.g., competitive threat, customer complaint) There are two types of response: –Routinized or programmed response: Stimulus evokes previously learned response (or performance program) –Problem-solving response (search) Stimulus evokes search (problem-solving activity) resulting in a new performance program –Search is costly and stressful. It is psychologically easier to invoke programmed responses.

25. 3. GROUP-LEVEL MODELS

26. 26 The pros of group (team) decision-making Teams make more accurate decisions than their average member –Greater detection of error –Greater memory of facts –Greater probability that someone will know the right answer Teams bring together a greater diversity of skills, information, knowledge, points of view –Brainstorming Teams, especially diverse teams, tend to be more creative Decision acceptance is greater when people are involved in the decision-making process –“Standardized work” at NUMMI

27. 27 The cons of group decision making –Takes time –The potential for conflict is high –Responsibility is diffused –Group shift/polarization (“risky shift”) –Reduced learning? Zajonc: Audience effects enhance performance but depress learning –Groupthink

28. 28 Classical administrative theory on decision making Managers devise programs (“standard operating procedures”) so that decisions can be made “by the book” Such routine or programmed decisions are delegated down the hierarchy; exceptions are managed by higher-ups Higher level decisions are nonroutine, uncertain, risky, require problem-solving search

29. 29 Consensus decision-making Upsides: everyone is on board; fast & thorough implementation Downsides: Very slow; consensus may not be reached or is unreal; risk of groupthink Examples: –American juries –The ringi system of Japanese decision-making The Delphi technique: a consensus-building tool –Identify a panel of experts, send the problem to each one individually, each one solves the problem, a central location compiles all these comments, each panelist receives a copy of the whole thing, each expert provides feedback on all the other comments, and the last 2 steps are repeated until consensus is reached

30. 30 The political model of decision- making Decisions are made through bargaining and negotiation or through power plays and political strategizing Research –Game theory –Power and politics

31. Bob Ebeling Manager of the Rocket Ignition System at Morton-Thiokol “ We did our level best, but it wasn’t good enough...The decision to recommend a launch was pre-ordained by others, by NASA leaning on our upper management. The deck was stacked.” “I was so sure that Challenger was doomed that I asked my daughter, Leslie, then 33, to my office to watch a super colossal disaster unfold on live TV...and then I prayed” The fact that he foresaw disaster and could not stop it has tortured him since.

32. 32 The “risky shift” When people are in groups, they are likely to make riskier (more extreme) decisions, as the shared risk makes the individual risk less –Myers and Bishop (1970) put highly prejudiced students together to discuss racial issues. They became even more prejudiced. The reverse happened with unprejudiced students, who became even more unprejudiced. –Juries given weak evidence will become very lenient after discussion, whilst when given strong evidence they are likely to give harsh judgment.

33. 33 Escalation of commitment Tendency to keep supporting previously unsuccessful courses of action due to sunk costs. Bad decision that results in a negative outcome, investment loss Rather than changing course of action, more is invested to try to recoup sunk costs Process continues... –Psychological mechanisms Risk-seeking after losses Cognitive dissonance

34. 34 Beware of groupthink! (Janis, 1972) Definition: when members fail to disagree, to bring up doubts and fears, or to bring up information that contradicts the team’s decision. Suddenly, they are going in a direction that makes no one happy simply because no one wants to cause conflict. Symptoms: 1.Illusion of invulnerability 2.Unquestioning belief by members in team’s inherent morality 3.Collective rationalizations to discount negative feedback 4.Stereotypes of other groups 5.Self-censorship 6.Illusions of unanimity 7.Direct pressure on dissenters 8.Emergence of self-appointed mind guards President John F. Kennedy after the Bay of Pigs invasion: “How could we have been so stupid?”

35. 35 In summary … Decision-making is hard Lots of things can get in the way of making good individual decisions Even more things get in the way of making good decisions in groups