Optimism bias
Encyclopedia
Optimism bias is the demonstrated systematic tendency for people to be overly optimistic about the outcome of planned actions. This includes over-estimating the likelihood of positive events and under-estimating the likelihood of negative events. Along with the illusion of control
and illusory superiority
, it is one of the positive illusions to which people are generally susceptible. Excessive optimism can result in cost overruns, benefit shortfalls, and delays when plans are implemented or expensive projects are built. More generally, they are related to the initiation of military conflicts
and the creation of economic bubbles.
Students in one study rated themselves as much less likely than their peers (students of the same sex at the same college) to experience negative life events such as developing a drinking problem, having a heart attack, being fired from a job, or divorcing a few years after getting married. This effect, called unrealistic personal optimism, has been replicated and extended in between-subject research. This research shows that optimistic bias is more prevalent in people with greater left-prefrontal activation.
Optimism bias does not apply universally. For example, people overestimate their chances of experiencing very rare events, including negative events.
. The overconfident may also inadequately react to legal threats and incentives, undermining the deterrent effect of liability rules.
or similar line of credit) as a result of otherwise minor transgressions such as a late payment. Companies have exploited this bias by increasing interest rates to punitive rates for any late payment, even if it is to another creditor. Overconfidence bias makes these terms more acceptable to borrowers than if they were accurately calibrated.
Overconfidence bias also causes many people to substantially underestimate the probability of having serious financial or liquidity problems, such as from a sudden job loss or severe illness. This can cause them to take on excessive debt under the expectation that they will do better than average in the future and be readily able to pay it off.
Overconfidence, locus of control
Overconfidence bias may cause many people to overestimate their degree of control and their odds of success. This may be protective against depression—since Seligman and Maier's model of depression
includes a sense of learned helplessness
and loss of predictability and control. Depressives tend to be more accurate and less overconfident in their assessments of the probabilities of good and bad events occurring to others, but they tend to overestimate the probability of bad events happening to them. This has caused some researchers to consider that overconfidence bias may be adaptive or protective in some situations.
s and benefits and duration of tasks. It must be accounted for explicitly in appraisals if these are to be realistic. Optimism bias typically results in cost overruns, benefit shortfalls, and delays when plans are implemented.
The UK government explicitly acknowledges that optimism bias is a problem in planning and budgeting and has developed measures for dealing with optimism bias in government (HM Treasury 2003). The UK Department for Transport requires project planners to use so-called optimism bias uplifts for large transport projects in order to arrive at accurate budgets for planned ventures (Flyvbjerg and Cowi 2004).
In a debate in Harvard Business Review
, between Daniel Kahneman
, Dan Lovallo, and Bent Flyvbjerg
, Flyvbjerg (2003)—while acknowledging the existence of optimism bias—pointed out that what appears to be optimism bias may actually be strategic misrepresentation
. Planners may deliberately underestimate costs and overestimate benefits in order to get their projects approved, especially when projects are large and when organizational and political pressures are high. Kahneman and Lovallo (2003) maintained that optimism bias is the main problem.
was developed to eliminate or reduce optimism bias in forecasting, planning, and decision making.
study found that, when imagining negative future events, signals in the amygdala
, an emotion centre of the brain, are weaker than when remembering past negative events. This weakened consideration of possible negative outcomes is one possible mechanism for optimism bias. The activity of brain regions that are known to malfunction in psychological depression also predict the optimism bias.
Illusion of control
The illusion of control is the tendency for people to overestimate their ability to control events, for instance to feel that they control outcomes that they demonstrably have no influence over. The effect was named by psychologist Ellen Langer and has been replicated in many different contexts. It...
and illusory superiority
Illusory superiority
Illusory superiority is a cognitive bias that causes people to overestimate their positive qualities and abilities and to underestimate their negative qualities, relative to others. This is evident in a variety of areas including intelligence, performance on tasks or tests, and the possession of...
, it is one of the positive illusions to which people are generally susceptible. Excessive optimism can result in cost overruns, benefit shortfalls, and delays when plans are implemented or expensive projects are built. More generally, they are related to the initiation of military conflicts
War
War is a state of organized, armed, and often prolonged conflict carried on between states, nations, or other parties typified by extreme aggression, social disruption, and usually high mortality. War should be understood as an actual, intentional and widespread armed conflict between political...
and the creation of economic bubbles.
Experimental demonstration
Armor and Taylor review a number of studies that have found optimism bias in different kinds of judgment. These include:- Second-year MBA students overestimated the number of job offers they would receive and their starting salary.
- Students overestimated the scores they would achieve on exams.
- Almost all newlyweds in a US study expected their marriageMarriageMarriage is a social union or legal contract between people that creates kinship. It is an institution in which interpersonal relationships, usually intimate and sexual, are acknowledged in a variety of ways, depending on the culture or subculture in which it is found...
to last a lifetime, even while aware of divorceDivorceDivorce is the final termination of a marital union, canceling the legal duties and responsibilities of marriage and dissolving the bonds of matrimony between the parties...
statistics. - Professional financial analysts consistently overestimated corporate earnings.
- Most smokersTobacco smokingTobacco smoking is the practice where tobacco is burned and the resulting smoke is inhaled. The practice may have begun as early as 5000–3000 BCE. Tobacco was introduced to Eurasia in the late 16th century where it followed common trade routes...
believe they are less at risk of developing smoking-related diseases than others who smoke.
Students in one study rated themselves as much less likely than their peers (students of the same sex at the same college) to experience negative life events such as developing a drinking problem, having a heart attack, being fired from a job, or divorcing a few years after getting married. This effect, called unrealistic personal optimism, has been replicated and extended in between-subject research. This research shows that optimistic bias is more prevalent in people with greater left-prefrontal activation.
Optimism bias does not apply universally. For example, people overestimate their chances of experiencing very rare events, including negative events.
Increased risk taking and insufficient preventive care
Optimism bias can induce people to underinvest in primary and preventive care and other risk-reducing behaviors, such as abstinence from smokingSmoking
Smoking is a practice in which a substance, most commonly tobacco or cannabis, is burned and the smoke is tasted or inhaled. This is primarily practised as a route of administration for recreational drug use, as combustion releases the active substances in drugs such as nicotine and makes them...
. The overconfident may also inadequately react to legal threats and incentives, undermining the deterrent effect of liability rules.
Increased risk for financial problems
Overconfidence causes many people to grossly underestimate their odds of making a payment late. Statistically, many people are quite likely to make at least one payment late due to the normal range of difficulties and delays in day-to-day life. Overconfidence bias causes these people to grossly underestimate the odds of this happening and therefore to accept grossly punitive fees and rates (e.g., an interest rate of nearly 30% on a credit cardCredit card interest
Credit card interest is the principal way in which credit card issuers generate revenue. A card issuer is a bank or credit union that gives a consumer a card or account number that can be used with various payees to make payments and borrow money from the bank simultaneously...
or similar line of credit) as a result of otherwise minor transgressions such as a late payment. Companies have exploited this bias by increasing interest rates to punitive rates for any late payment, even if it is to another creditor. Overconfidence bias makes these terms more acceptable to borrowers than if they were accurately calibrated.
Overconfidence bias also causes many people to substantially underestimate the probability of having serious financial or liquidity problems, such as from a sudden job loss or severe illness. This can cause them to take on excessive debt under the expectation that they will do better than average in the future and be readily able to pay it off.
Overconfidence, locus of controlLocus of controlLocus of control is a theory in personality psychology referring to the extent to which individuals believe that they can control events that affect them. Understanding of the concept was developed by Julian B...
, and depression
Overconfidence bias may cause many people to overestimate their degree of control and their odds of success. This may be protective against depression—since Seligman and Maier's model of depressionClinical depression
Major depressive disorder is a mental disorder characterized by an all-encompassing low mood accompanied by low self-esteem, and by loss of interest or pleasure in normally enjoyable activities...
includes a sense of learned helplessness
Learned helplessness
Learned helplessness, as a technical term in animal psychology and related human psychology, means a condition of a human person or an animal in which it has learned to behave helplessly, even when the opportunity is restored for it to help itself by avoiding an unpleasant or harmful circumstance...
and loss of predictability and control. Depressives tend to be more accurate and less overconfident in their assessments of the probabilities of good and bad events occurring to others, but they tend to overestimate the probability of bad events happening to them. This has caused some researchers to consider that overconfidence bias may be adaptive or protective in some situations.
Optimism bias and planning
Optimism bias arises in relation to estimates of costCost
In production, research, retail, and accounting, a cost is the value of money that has been used up to produce something, and hence is not available for use anymore. In business, the cost may be one of acquisition, in which case the amount of money expended to acquire it is counted as cost. In this...
s and benefits and duration of tasks. It must be accounted for explicitly in appraisals if these are to be realistic. Optimism bias typically results in cost overruns, benefit shortfalls, and delays when plans are implemented.
The UK government explicitly acknowledges that optimism bias is a problem in planning and budgeting and has developed measures for dealing with optimism bias in government (HM Treasury 2003). The UK Department for Transport requires project planners to use so-called optimism bias uplifts for large transport projects in order to arrive at accurate budgets for planned ventures (Flyvbjerg and Cowi 2004).
In a debate in Harvard Business Review
Harvard Business Review
Harvard Business Review is a general management magazine published since 1922 by Harvard Business School Publishing, owned by the Harvard Business School. A monthly research-based magazine written for business practitioners, it claims a high ranking business readership among academics, executives,...
, between Daniel Kahneman
Daniel Kahneman
Daniel Kahneman is an Israeli-American psychologist and Nobel laureate. He is notable for his work on the psychology of judgment and decision-making, behavioral economics and hedonic psychology....
, Dan Lovallo, and Bent Flyvbjerg
Bent Flyvbjerg
Bent Flyvbjerg is the first Chair and BT Professor of Major Programme Management at Oxford University's Saïd Business School and is Founding Director of the University's BT Centre for Major Programme Management. He was previously Professor of Planning at Aalborg University, Denmark and Chair of...
, Flyvbjerg (2003)—while acknowledging the existence of optimism bias—pointed out that what appears to be optimism bias may actually be strategic misrepresentation
Strategic misrepresentation
"Strategic misrepresentation is the planned, systematic distortion or misstatement of fact—lying—in response to incentives in the budget process...
. Planners may deliberately underestimate costs and overestimate benefits in order to get their projects approved, especially when projects are large and when organizational and political pressures are high. Kahneman and Lovallo (2003) maintained that optimism bias is the main problem.
Optimism bias and reference class forecasting
Reference class forecastingReference class forecasting
Reference class forecasting is the method of predicting the future, through looking at similar past situations and their outcomes.Reference class forcasting predicts the outcome of a planned action based on actual outcomes in a reference class of similar actions to that being forecast. The theories...
was developed to eliminate or reduce optimism bias in forecasting, planning, and decision making.
Mechanisms
A brain-imagingNeuroimaging
Neuroimaging includes the use of various techniques to either directly or indirectly image the structure, function/pharmacology of the brain...
study found that, when imagining negative future events, signals in the amygdala
Amygdala
The ' are almond-shaped groups of nuclei located deep within the medial temporal lobes of the brain in complex vertebrates, including humans. Shown in research to perform a primary role in the processing and memory of emotional reactions, the amygdalae are considered part of the limbic system.-...
, an emotion centre of the brain, are weaker than when remembering past negative events. This weakened consideration of possible negative outcomes is one possible mechanism for optimism bias. The activity of brain regions that are known to malfunction in psychological depression also predict the optimism bias.
See also
- Benefit shortfallBenefit shortfallA benefit shortfall results from the actual benefits of a venture being lower than the projected, or estimated, benefits of that venture. If, for instance, a company is launching a new product or service and projected sales are 40 million dollars per year, whereas actual annual sales turn out to be...
- Cost overrunCost overrunA cost overrun, also known as a cost increase or budget overrun, is an unexpected cost incurred in excess of a budgeted amount due to an under-estimation of the actual cost during budgeting...
- Cost underestimation
- Cost-benefit analysisCost-benefit analysisCost–benefit analysis , sometimes called benefit–cost analysis , is a systematic process for calculating and comparing benefits and costs of a project for two purposes: to determine if it is a sound investment , to see how it compares with alternate projects...
- List of cognitive biases
- Pessimism biasPessimism biasPessimism bias is an effect in which people exaggerate the likelihood that negative things will happen to them. It contrasts with optimism bias, which is a more general, systematic tendency to underestimate personal risks and overestimate the likelihood of positive life events. Depressed people are...
- Reference class forecastingReference class forecastingReference class forecasting is the method of predicting the future, through looking at similar past situations and their outcomes.Reference class forcasting predicts the outcome of a planned action based on actual outcomes in a reference class of similar actions to that being forecast. The theories...
- Risk managementRisk managementRisk management is the identification, assessment, and prioritization of risks followed by coordinated and economical application of resources to minimize, monitor, and control the probability and/or impact of unfortunate events or to maximize the realization of opportunities...
- Rosy retrospectionRosy retrospectionRosy retrospection refers to the finding that subjects later rate past events more positively than they had actually rated them when the event occurred, reminiscent of the Latin phrase memoria praeteritorum bonorum ....
Further reading
- KahnemanKahnemanKahnemann, Kahneman, Kahaneman :* Avraham Kahneman* Daniel Kahneman , an Israeli psychologist and Nobel laureate in economics* Harald Kahnemann-Oppenheimer, founder of Eulama...
, Daniel and Dan Lovallo, 2003. "Response to Bent Flyvbjerg." Harvard Business Review, December Issue, p. 122. - Flyvbjerg, Bent and Cowi, Procedures for Dealing with Optimism Bias in Transport Planning: Guidance Document (London: UK Department for Transport, June 2004). 61 pp.
- Flyvbjerg, Bent, 2003. "Delusions of Success: Comment on Dan Lovallo and Daniel Kahneman." Harvard Business Review, December Issue, pp. 121–122.
- Flyvbjerg, Bent, Mette K. Skamris Holm, and Søren L. Buhl, "Underestimating Costs in Public Works Projects: Error or Lie?" Journal of the American Planning Association, vol. 68, no. 3, Summer 2002, pp. 279-295.
- Flyvbjerg, Bent, "From Nobel Prize to Project Management: Getting Risks Right." Project Management Journal, vol. 37, no. 3, August 2006, pp. 5-15.
- HM Treasury, Supplementary Green Book Guidance: Optimism Bias (London: HM Treasury, 2003).
- Lovallo, Dan and Daniel Kahneman, 2003. "Delusions of Success: How Optimism Undermines Executives' Decisions," Harvard Business Review, July Issue, pp. 56–63.
- Matlin, Margaret W. "Pollyanna Principle" in