31 October 2015

The Unrewarded, Despised Heroes? On the Deadly Fire in Bucharest Nightclub

Everyone loves a hero… that woman or man who comes to the rescue in difficult and dangerous situations. We praise heroes… we have (action) heroes fiction movies, stories and legends. Presidents, kings and queens hand out medals to people who saved others in dangerous situations. Sometimes, after a hero’s death we erect statues and monuments honouring them.

Last night (30th -31st October 2015) at least 26 people died and more than 100 were injured, many with severe burns in a fire in a night club in the city that was my home for 21 years – Bucharest (capital of Romania).

The tragedy was reported by local media, the BBC, CNN and many other international media organizations.

The local authorities’ response was OK, even good, but, nonetheless the tragedy left behind victims and a city of more than two million people in shock.

The firemen, the first aid responders, doctors and nurses all are, in some ways, heroes. They are the ones who came to the rescue, the ones who came to the hospitals in the middle of the night to take care of the wounded who went out to have fun at a concert and ended up scarred for life.

I can’t predict the future, but it is likely that in the foreseeable future the president of Romania will hand out some medals for bravery in the line of duty… and rightfully so.

In hindsight we will know who the heroes are and they will be rightfully praised.

There is, however, a different group of (anti)heroes and I’ll come back to them really soon.

How did the fire happen? The investigation is now in the early hours, so we don’t fully, definitely know what actually happened. Nonetheless, this is not the first tragedy in the world that involved a fire in a night club. Previous cases fit well with the “Swiss cheese” model for tragedies. In other words, there wasn’t one single factor that led to the tragedy, rather several holes in safety overlapped.

Early reports and eye-witness statements include the use of highly flammable materials for sound-proofing the nightclub (i.e. foam, artificial sponge), overcrowding, one fire-exit door being blocked, fireworks that went bad, narrow streets with lots of cars parked that made it difficult for fire trucks to intervene quickly etc.

In hindsight all of these are obvious danger factors. Nonetheless, these holes in safety are not unique to Bucharest nightclubs and there have been thousands of nights of fun that went on just fine despite the (now) obvious hazards.

Let me get back to the other category of (anti)heroes… they are the fire safety inspectors, the bureaucrats that give out permits for such establishments to go into business. There are lots of people whose daily jobs consist of enforcing boring, annoying safety regulations. These jobs aren’t fun! Particularly because many people including business owners find such regulations at least annoying if not obnoxious.

Indeed, business people and home owners want to get things going and complying with (fire) safety regulation isn’t exactly on top of their agendas.

And here come the unwanted, annoying, obnoxious and, most importantly, invisible heroes. The fire safety inspectors, work-safety inspector, building safety inspector etc.

Although we don’t particularly like these bureaucrats with their checklists and regulations, we have to admit that, when it comes to reducing the incidence and impact of disasters, they do a lot more than the praised heroes in saving lives and property. No! These people don’t get the spotlight or the praise of the community, but we should acknowledge their role, particularly when a tragedy strikes… we should remember that many other tragedies didn’t happen because a small, annoying bureaucratic inspector came in to check the application of safety rules in the restaurants, shops, apartment buildings, nightclubs etc. which we have visited in the past.

So, how come this tragedy in Bucharest happened? Again, I don’t fully know the answer. However, I know a thing or two about how things go there… When it comes to rules and regulations, Romania is doing great. The issue is with applying and enforcing them. Maybe the owners of the nightclub passed the safety inspection and then changed some things; maybe they bribed the safety inspector; maybe the business didn’t have the proper permits… there are lots of maybes…

What is sure is that at least 26 people died and at least another hundred were injured. It is also sure that bad design was involved (you don’t put inflammable foam with fireworks in an indoor space).

Beyond finding who is responsible for this tragedy (Romanians are great at assigning blame), I strongly believe that we need to learn from this unfortunate, though preventable, event.

We need to learn that the unappealing, badly paid, obnoxious and annoying fire inspector is a hero – an unrewarded, almost invisible and completely ignored hero.    

29 October 2015

Behavioral Science Explains the Failure of Free Markets

Most of you know me as a behavioral science guy, but I have to make a confession: my initial training is in Economics and business administration. Being born in a country with a communist dictatorship, with a centralized economy and spending much of childhood and teenage years in a chaotic backwards transition to market economy, I firmly believed in the virtues for free markets.

Perhaps because of this experience and seeing what free markets can do in a society unaccustomed to how they work, made me think hard if free markets are as virtuous as I thought them to be. And the answer is ambivalent: on the one hand, yes! It is absolutely obvious that a free market economy is far better than a centralized and corrupt one. On the other hand, however, free markets can be extremely perverse and lead to severely sub-optimal results (equilibrium).

Too often free markets fail to achieve the goal of maximizing consumer benefit.

When thinking about the pros of free markets, there are two prevalent assumptions: (1) people (buyers) fully understand what they are buying and (2) people can punish sellers by not buying from them anymore.

When these two assumptions are met and when there is competition among sellers, free markets work just fine.

Consider the example of fruit and vegetables. Anyone can understand what they are, anyone can quickly assess their quality, even if not necessarily before purchasing. Since they are bought frequently anyone can punish a seller by not buying from him or her next time they are shopping. Moreover, if the product is faulty, the damage to the buyer is minimal.

Another similar example is that of hair-dresser saloons (establishments). Anyone can quickly assess if they are happy with their new haircut, with the service provided etc. Although we don’t usually visit the hairdresser as often as we buy fruit and vegetables, the purchase of such services is frequent enough to allow the buyers to punish the sellers by not going to their establishment next time they get a haircut. Again, the damage caused to the buyer if the service is faulty is relatively low (unless it’s your wedding day).

In such situations free markets work just fine with minimal (common sense) regulation.

When the two assumptions of (1) people (buyers) fully understand what they are buying and (2) people can punish sellers by not buying from them anymore are not met, free markets are disasters waiting to happen.

An obvious example is the banking / credit market. For the huge majority of people a loan is a difficult to understand product and not seldom banks (credit institutions) make them even more complicated than they should be. Understanding the exponential relationship between the cost of the credit and the duration of the loan is extremely difficult even for trained economists. Fully understanding the maze of interest rates and fees requires a chess-master’s mind coupled with lengthy deliberation, computations and spreadsheets. The huge majority of people who take loans do not have these abilities or afford the necessary effort and time. Instead they rely on simple / simplistic rules of thumb (heuristics) such as how much do I like the person selling this or which one has the smallest monthly payment.

Since some loans are by their very nature long term (i.e. mortgages), it is virtually impossible for the buyer (loaner) to punish the seller (bank) if the product is faulty. If you consider the duration of 20-30 years for a typical mortgage, you probably realize that many marriages don’t last that long.

Moreover, if the product is faulty – a loan has hidden costs or other vices, the impact on the buyer is huge. For example, between 2006 and 2008 in Romania (my country of birth) there was a frenzy of loans in Swiss francs. The people who took out those loans ended up paying more than double what they should have repaid because the exchange rate Swiss Franc to Romanian Leu (local currency) doubled. In other words, when the loan was contracted you needed 2 Romanian currency for every Swiss Franc; a few years later you needed 4 Romanian currency for every Swiss Franc. More on this here: http://naumof.blogspot.com/2015/01/the-black-swan-of-swiss-franc.html

Financial products are not the only ones that make free markets produce failures every other year and disasters every (other) decade.

Take the example of medical services. I don’t like doctors, but I have to admit that getting through medical school isn’t easy and becoming a full medical doctor requires lots of learning and training.

In the case of medical services, the client (patient) is almost always completely incompetent and incapable of evaluating the quality of the service. In some milder cases, of course, the patient can see if she recovers or not after the prescribed treatment or procedure. This, however, is not always the case.

Consider a root-canal treatment and a new “fake” tooth. It is almost like a mortgage. It should work fine for ten-twenty-thirty years, but on the moment it is extremely difficult to evaluate. It is very hard for the buyer to punish the seller if the product is faulty simply because quality is very hard to evaluate and purchasing is infrequent. Moreover, the quality of a good (root-canal) treatment includes the durability of the work.

Naturally, in case of faulty medical products (services) the impact on the buyer’s well-being is huge.

Some might disagree with me on the points made above, particularly on the medical services. Some might say that they are capable of properly evaluating the quality of medical services. In fact, in many countries, patients are asked to evaluate the doctors who treated them.

Patient evaluations are a vicious by-product of free market thinking. It is well intended, it makes some sense and it is absolutely wrong.

Without proper medical training it is extremely difficult to assess if the doctor did a good job or not. As in the case of (long term) complex loans, even people with specialized training find it difficult to properly evaluate the quality of the product or service.

Why do some people believe they can evaluate the quality of medical services?

These people do not evaluate the quality of the actual medical procedure – the medical act. They are evaluating, at best, reasonable proxies.

For example, someone who had a root-canal treatment can evaluate how clean and modern was the dental clinic (i.e. general aspect); she can evaluate how much pain she was in; she can evaluate how the doctor and staff treated her and how much empathy they shown.     

All of these are, at best, correlated with the quality of the actual root canal treatment procedure. It makes sense to assume that doctors who give a lot of attention, put in a lot of effort in the actual medical procedure would have nice looking practices, while those who don’t give a damn on their work would do the same with the aspect of their practice.

But this is, at best, a correlational, not causal relationship.

Behind these (quality) evaluations is a cognitive process called “attribute substitution” in which we answer a difficult question with the answer of an easier one. When asked the difficult question of what was the quality level of the medical procedure you went through, people give the answer to the easier question of how they felt about it (during).

People can evaluate how they felt – the quality of the experience, not the quality of the medical procedure.

Free markets and a free market way of thinking (e.g. incorporating patient evaluations in doctor’s compensation) can create vicious situations that are clearly not maximizing the benefit of the buyer.

Patient evaluation and free markets in the medical services can lead to situations in which a competent, but grumpy doctor is overtaken by an incompetent, but very agreeable one.  

Free markets fail when it is difficult for the buyer to assess quality and it is extremely difficult to punish the seller for faulty quality of the merchandise may it be goods or services. 

19 October 2015

Shooting Yourself in the Foot with Focus and Loss Aversion

My wife and I are (re)visiting The Netherlands for a few days and we rented an apartment via booking.com. When we arrived, the owners asked us to pay the city tax in cash since they didn’t want to pay a processing fee to the credit card company. You can imagine how that felt like, particularly after 24+ hours without sleep and a trans-Atlantic flight.

Just to be clear, the city tax is about 15 Euros. I’m not sure how much they would have had to pay for the payment, but even a fee as high as 5% would have resulted in a cost of less than one Euro.

Unfortunately, this is not the only situation I encountered in which (small business) people shoot themselves in the foot because they focus on avoiding (small) losses on narrow mental accounts.

Some restaurant owners want each and every table (seating) to be profitable and, occasionally, become sales-aggressive or impolite.

A print-shop owner stopped handing out candy because someone took a hand-full from the candy jar.

A business owner wants to make a profit on each and every transaction, thus refusing to make some small deliveries.

A small-shop keeper refuses to install a bankcard-payment POS because the bank charges him 3% of every transaction.

Each of these examples makes intuitive sense: nobody likes to lose money.

The focus on making a profit on each and every transaction might sound like good management, but it simply isn’t.

Each such decision is like shooting yourself in the foot and later wonder why you can’t run.

Sure, a restaurateur might squeeze another few dollars or euros from a client, but there’s a good chance that person will never set foot again in the restaurant. A shop keeper will avoid paying the bank the transaction fees, but some existing clients might start avoiding the shop, while potential clients will not even consider it since they can’t pay with their bankcards.

You might think that such problems occur only for small businesses, but this isn’t exactly the case.

Let’s do a thought experiment:

Imagine that a friendly alien comes from the sky and proposes the following gamble: a fair coin will be flipped and if the space-ship side comes up, you will win 150$, while if the other side comes up you will lose 100$. Each side has a 50:50 chance to come up.

Would you take this bet?

I’m not sure what you would do, but I have shown this situation to hundreds of participants in my training programs in applied behavioral economics, many of them in pretty large businesses.

Only about 10% of them say that they would take this bet. For all the others, taking a bet in which you can either win 150$ with 50% probability or lose 100$ with 50% probability is unacceptable.

This holds even after I compute the expected value of the gamble (which is +25$)

One participant asked me if the bet is played only once and I answered yes. He said that if it is only once he doesn’t take it, but if it would have been played several times, he would take it.

Here’s the key: if you play this bet several times, on average your chance of overall gaining money increases, even if you will sometimes lose. If you play ad infinitum it is certain that you will end up gaining money.

Imagine a conference room with 20 people having to decide if each of them would take the above mentioned bet. If all of them are from the same company, it is like the group (company) would play the bet 20 times.

Up to now, no one realized this. Every person makes a decision on their own and, usually, the decision is to not take the bet. Overall the group (company) loses because everyone thinks individually…

I am not criticizing anyone, but it might be a good idea to take a look on the rewards and penalties systems. If, during an evaluation period of one year, an (each) employee has to make one such decision she will most likely not take the risk because there’s a good chance (50%) that she will lose money for the business and her evaluation will be bad, her bonus will disappear and so might her job.

Small businesses shoot themselves in the foot because they focus on avoiding loses on each and every transaction.

Large(r) business shoot themselves in the foot because they focus on evaluating each employee / department / manager etc.   

2 October 2015

Behavioral Science Meets Marketing Communication and UX Design

On September 21st I gave two workshop sessions on how behavioral science can improve marketing communication and UX design, respectively.

I very much enjoyed giving the two half-a-day workshops to the very nice audience at LiveHealthier – a corporate wellness company just North of Washington DC. Both workshops were well received by the audience in both enjoyment of the sessions and usefulness.

Here’s what Amy Troop SVP, Consumer Experience at LiveHealthier said about the training:

Nick Naumof conducted two sessions for our consumer marketing and product development teams on applying the theories of behavioral science to marketing communications and UX design.

Participants found it to be time well spent and came away with immediate applications for the learnings in their day-to-day work.

Thanks, Nick, for all your efforts in crafting a meaningful program for our team!

Thank you Amy, Demetrius and Sasha for the great support in organizing this session! Thank you to all participants who made the day delightful.

Here you can find details on my Learning Programs on how behavioral science and behavioral design can make your products & services work with human nature.

You can take a look at my dedicated programs on behavioral design for banking  and health & wellness.