“How Loss Aversion may unconsciously impact our strategic thinking”

by Didier Marlier on Friday October 21st, 2011

Wikipedia provides the following definition for the psychological phenomenon known as Loss Aversion: “In economics and decision theory, loss aversion refers to people’s tendency to strongly prefer avoiding losses to acquiring gains. Some studies suggest that losses are two and a half times as powerful, psychologically, as gains. Loss aversion was first convincingly demonstrated by Amos Tversky and Daniel Kahneman” (the Nobel Prize of Economics 2002 about whom I wrote a post a while ago).

In a recent discussion around “The future of Leadership” with senior leaders at KPMG-Meijburg (one of the jewels of the KPMG empire), this psychological theory was mentioned and explored. A few important things surfaced, from our collective experience at the service of high level executives:

  • If Kahneman’s theory is representative of how many leaders think, our instinctive bias on the VC2 matrix (see postXXXXX) is to focus on the Value Capture axis at the expense of the less predictable, potentially more risky and costly Value Creation.
  • Loss Aversion also suggests that responsible leaders of successful companies will be, in general terms, more risk averse than their start-ups counterparts, who have much less to loose and far more of an upside potential, explaining in part why some start-ups are increasingly getting in the way of their well established “elderly sisters”.
  • “Old” industrial/financial capitalism model vs Open Source Economy (and “Authentic Capitalism” as increasingly called for by forward thinkers such a Umair Haque or Otto Scharmer of M.I.T.): The G.R.A.V.I.T.A.S. acronym about the emerging vales and “rules of the game” of the Open Economy are therefore very counter-intuitive: Generosity isn’t the first criteria which jumps to mind when doing a business plan… However “free” has become one of the features on which to build businesses in the Open Source Economy. Not everything goes for free, of course, but the concept is used to make the organization progress. Take M.I.T.’s very bold decision, some years ago, to put all of their courses’ content for free on internet slide shows. The idea was to demonstrate M.I.T.’s thought leadership and push the professors to add something by their presence on their courses rather than hide behind the powerpoint. The bet seems to be worth it.
  • In a recent blog I quoted, Charles Leadbetter a leading thinker on innovation and creativity, as saying: “In the past you were what you owned. Now you are what you share”… This is totally senseless to the Aversion Loss feaks. However, it is something we take very seriously in our firm. Due to our structure (see our post on the emergence of Talents Networks), some of us choose to work for other networks as well as ours. Very often, the rule there is: “Do not share with other networks what you see here!”. We take the radical counter foot of it and encourage our associates and partners to share widely, even with the same firms preventing them from sharing, what they develop with us. On the long term, this forces us to stay on our toes and continuously reinvent ourselves and update our thoughts and activities. It may as well keep our competitors lazy and permanently one step behind as they will try to imitate what we did… one year ago. In a recent example, the Chinese subsidiary of a large US firm wrote to us asking if we could share the material used with the company in Latin America, as they wanted to imitate what we did but by themselves for costs reasons. This created an interesting debate amongst us and we decided to give all we had in order to support that person. We liked her honesty and felt that, should we believe in Open Source, we should of course behave that way. And a few weeks later, the lady who had contacted us, came back and shared in return the innovations and twists she had brought to our material.

 Loss Aversion will continue to exist and play in the background of our minds. It is a healthy mechanism. But like many of these automatic reactions, it is good to be conscious of their presence and ensure that we make the right decisions in the new era of economy we are heading towards.

On my way to Atlanta with my “partner in crime” Nick van Heck and Rob Jan de Jong. Have a good week all! Didier

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One Response to ““How Loss Aversion may unconsciously impact our strategic thinking””

  1. Great post Didier! I just wanted to share that I’ve been a big fan of Tversky and Kahneman since graduate school. In 1982 I proposed to do a thesis exploring the extent to which their decision theory applied in group decision-making as it does in individual decision-making. At the time, the topic was rejected for lacking a clear yes-no hypothesis. Too bad. I still think it would be fascinating to research it. Make sure you visit the Georgia Aquarium in Atlanta – you won’t regret it!

    Pierre

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