Default Bias, laziness and financial choices

Reading time ca. 8 mins.

We have analysed in the previous article what default options are and why we should be aware of those. Now it’s time to broaden our horizon.

It’s common knowledge that human beings are lazy – How would you otherwise explain Jeff Bezos being one the richest person on the planet?

Laziness though, is often a necessity for our brain, especially when it comes to choices. We should not always judge it as negative. Any choice, from starting a family to picking toothpaste on the drugstore’s shelves involve cognitive effort, otherwise known as “brain power”. Since brain power is a finite resource, like any finite resource, needs to be managed and allocated carefully

It takes someone months of reflection deciding if moving abroad or not, if buying a house or keep renting; it takes (to most of us) 4 to 5 seconds to decide which cereals to buy at the supermarket.

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Default option Effect: “Tendency for an agent to generally accept the default option in a strategic interaction. The default option is the course of action that the agent, or chooser, will obtain if he or she does not specify a particular course of action“

Default Bias: Preference of people to carry on behaving as they have always done or to mimic the behaviour of other choosers around them

Literature often refers to both grouping them under the same name. For the sake of this article I decided to split the two concepts.

I will delve into few real life examples, hoping it will help you understand the general concept.

• Automatic renewals clause in a contract. Typical real life examples are phone contracts, gym & online subscription. Companies implement renewals as the default automatic option because it leverages the above-mentioned laziness; they sensibly reduce the financial risk of losing a customer too early. Very often the Opt-out/cancellation process is also made more complex than the subscription process. You can sign up to a service with 3 clicks, but you’d need to send a physical letter to cancel such subscription (insurance policies these days function very much all like that – low to no barrier at the entrance, high barriers on your way out)
• Pre-selected choice during online purchases. Recurring revenue is better than non recurring revenue. From few years, when purchasing common goods on Amazon, a Subscribe & Save option was added. And it is also marked as a default. Below it’s a screenshot of me shopping for my daughter’s nappies yesterday.

What is Amazon trying to achieve?

1. They know nappies are not a one-off purchase. If you buy nappies once, you will most likely need to repeat this purchase for the next 2 to 3 years
2. They pre-select and highlight the option “Subscribe & Save”, even offering you to choose how much you wanna save (10% or 15%)
3. They highlight very clearly all the PROs of this subscription. No fees, Cancel any time. They need to do so because they are asking you for a commitment. This is not the default option engraved in consumers’ mind when buying nappies, they need to give you reasons why the default they propose is better (also for you)
4. They prime you to choose the delivery cadence that suits better with their financial KPIs. Do the majority of people use 160 nappies a month (as mentions there)? Maybe. “Most common” is open for interpretation

I am not implying that Amazon is trying to gauge you. They setup this purchase process in a way that maximise profits, but the choice is yours. Do you need 160 nappies a month? Is the price “per nappy” you can get by subscribing the best possible you can find out there? What effort is gonna take you to search and find a better deal?

The great majority of us will decide NOT to allocate their brainpower for such a decision. Many people will “Save & Subscribe”.

If the “Save & Subscribe” option was not marked as default, the volume of people deciding to Opt-in would be significantly lower.

This decision is an extremely simple one for the consumer. It takes 1 single click to change. More complex examples are public policies – most notorious example is organs donation. Countries have different views on organs donation. It comes down to 2 approaches:

• You are by default an organ donor unless you proactively opt-out (Default Opt-in)
• You are by default NOT an organ donor unless you proactively opt-in (Default Opt-out)

Needless to say, countries with a default opt-in achieve 5x results then countries with default opt-out (~80-90% vs. ~10-15%).

Is there also a cultural influence in how people act or how countries look at such topics? Germany and Austria are neighbouring countries, speak the same language, share some historical heritage, but have diametral opposite approach to this matter with complete opposite ratio of organ donors.

What about recycling?

Recycling rate can be very different by country (2018 data suggest Portugal/Turkey assessing their recycling effort at ca. 12% vs. Germany being at ca. 48%), but can government do something about that? Several studies suggest that vicinity of specific trash bins to the household play a role (putting general waste bins further away from the household); how “pleasant” the surroundings of a trash bin or another are, how the message about recycling is framed from your local administration

Do you want to recycle more?

Put in your kitchen the container for plastic, the one for paper and the one for organic waste. Put the container for “all the rest” in front of your door, in your garden, in your garage, maybe surrounded by few small obstacles.

Do you want to lose weight?

Countless studies have shown that using smaller plates dramatically influence the amount of food one eats. People’s tendency is to always finish what you get served. A full plate sends a signal of satisfaction to your brain when finished. So, instead of using big plates that can contain 3-400 grams of food each, buy smaller ones.

Instead of candies and chocolate on your living room table, put fruit and nuts. You can beat mindless eating not by putting effort in changing a habit, but rather transform a harmful habit in a healthy one.

We all struggle with self-discipline. Such effortless acts can greatly support your effort!

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So far we have analysed examples of what I described as “Default option effect”. At the beginning of this post I mentioned Default bias as well – intended as “the preference of people to carry on behaving as they have always done or to mimic the behaviour of other choosers around them” .

One example everyone can relate to is ice cream. Do you have a favourite ice cream flavour?

Maybe not, you might like to experiment and try different things. But we all have at least one Go-To ice cream flavour we always resort to when we are either pressured by time (or doubt) when making a choice. This is the typical example of a harmless Default bias.

For the records: my go-to ice cream flavour is Pistacchio. Not Pistacio or Pistachio. Two C and one H, and it’s not light green but light brown- green is food colouring

One far more dangerous example of Default bias is “We have always done it like this”, “It works, why should we change it?”. The tendency to preserve status quo

That’s why people vote for the same party even if they might strongly dislike the running candidate (see Trump & Biden case in the last election in USA); it is why company do not innovate enough – because they do not want to challenge their existing processes and capabilities since it expose them to the unknown; it is why many countries are very bureaucratical and do not change evidently outdated processes (try to get married in Germany as a non German citizen)

A virtuous example of Default bias are financial saving plans. Automatically enrolling (default opt-out) people into saving plans sponsored by employers dramatically increases the % of participation to such programs.

Default contribution rates also matter; workers tend to contribute the default amount even when there are better options available, such as an employer match for higher contributions. Defaults also impact asset allocation, with a significant portion of workers investing all their assets in the default fund when automatic enrollment is used. The evidence suggests that factors like decision-making complexity, self-control issues, and endorsement effects contribute to the importance of defaults in retirement savings outcomes.

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What are some practical actions you, as an individual, can take in order to improve your financial well-being by making laziness and defaults work for you?

Let me reiterate it – we all struggle with self-discipline. Small hack: pay your future-self in advance

• Decide (or get recommendation on) how do you generally want to invest money. ETF, stock, saving account, pension fund, doesn’t matter.

• Setup an automated transfer each 5th of the Month (or if you are paid twice a month, each 5th and each 20th). You will not even realise those money were in your possession in the first place, so you won’t have to choose between immediate reward (spending them) or future wealth (saving)…and let compound interest work for you.

It’s easy, doesn’t require any financial literacy (you can choose the safest options of investment out there) and it will have a great long term effect on your wealth.