REVIEW: Michael Lewis on the Complicated Friendship that Created Behavioral Economics

The Undoing Project: A Friendship That Changed our Minds by Michael Lewis

W.W. Norton and Company, 368 pages

By Charlie Gofen

Houston Rockets general manager Daryl Morey recalls some of his biggest mistakes in the NBA draft. In 2007, the Rockets passed on Marc Gasol after the team’s scouts had found a photo of the pudgy Spaniard shirtless and given him the nickname “Man Boobs.” Three years later, the Rockets (and every other team) failed to select Jeremy Lin because, like Gasol, the Chinese-American guard from Harvard didn’t fit their mental image of an NBA player. In both cases, the basketball players had shown up in Morey’s statistical model as highly desirable draft candidates, but he and his colleagues allowed biases to cloud their judgment. And in both cases, the model had it right.

Michael Lewis introduces readers to Morey in his latest book, The Undoing Project, a return for Lewis to the familiar ground of behavioral economics. Back in 2003, when he described in Moneyball how baseball scouts often focused on the wrong things when sizing up potential Major League players, these stories still seemed remarkable. But since that time, we’ve been deluged with books that reveal the systematic errors that people (including experts!) make in their predictions and decisions. There’s Nudge, Blink, Switch, Drive, Sway, Click, and a multitude of books that have titles too long to remember. 

And so the question arises: Even though the anecdotes are often amusing, do we really need another tutorial on the predictably irrational behavior of consumers, investors, business people, and pro sports scouts?

Fortunately, Lewis, master of the character-driven narrative, takes a novel tack in The Undoing Project, subordinating the ubiquitous illustrations of flawed judgment to a fresh narrative tracing the partnership of two Israeli psychologists whose pioneering work helped create the entire field of behavioral economics. Their individual stories, and their unique friendship, are what sets Lewis’s book apart.

Daniel Kahneman endured a traumatic childhood, ushered from town to town in occupied France during World War II, hiding to avoiding detection as a Jew. After WWII, he moved to Jerusalem just in time for another war, Israel’s struggle for independence. He studied psychology at Hebrew University and then began his requisite service in the Israeli army. “Gentle, detached, disorganized, conflict-avoiding, and physically inept,” Lewis writes, “Danny wasn’t anyone’s idea of a soldier.”

He survived the experience, though, even serving a year as a platoon commander, and was eventually assigned to the psychology unit. “The chief feature of the Israeli army’s psychology unit in 1954,” Lewis writes, “was that it had no psychologists.” So Kahneman, “a twenty-year-old refugee from Europe who had spent a meaningful amount of his life in hiding, found himself the Israel Defense Forces’ expert on psychological matters.”

Kahneman ended up having a huge impact on the Israeli military, designing assessments to determine which men would be successful and then testing and refining the approach to maximize its predictive value and minimize subjective bias. (Israel still uses his assessment tool today, with minor adjustments.)

Later, he challenged the assumptions of Israeli Air Force officers who believed that criticism of fighter pilots was more effective than praise. They had come to this conclusion because the pilots they praised performed worse the next time, while the pilots they criticized performed better. Kahneman explained the concept of “regression to the mean” and showed that these pilots would exhibit the same change in performance even if their instructors didn’t offer any feedback.

Kahneman left active duty, returned to his studies, received his Ph.D. in psychology, and became a professor in Israel known for lecturing dazzlingly without notes. It was at Hebrew University that he would first invite into his classroom for a guest lecture the other star of the school’s psychology department, Amos Tversky.

Tversky, a swaggering Israeli-born paratrooper who won one of Israel’s highest awards for bravery, had an intellect to match his self-confidence. “Everyone who ever met him thought he was the smartest person they had ever met,” noted a fellow psychologist from the U.S.

Tversky was also quirky, eschewing social norms. He skipped family vacations if he didn’t feel like going, and when he wanted to go for a run, “He’d simply strip off his slacks and sprint out his front door in his underpants and run as fast as he could until he couldn’t run anymore.”

The two psychologists seemed an unlikely pair. Kahneman was insecure, while Tversky was self-assured. “Danny was always sure he was wrong. Amos was always sure he was right. Amos was the life of every party. Danny didn’t go to the parties.”

But both Kahneman and Tversky were off-the-charts brilliant, and both had broad academic interests and an eagerness to challenge established wisdom. In addition, they shared a desire to conduct research that had applications in the real world, an ambition that stemmed largely from living in Israel and serving in the military. In Israel, Lewis notes, “everyone was in the army, even the professors, and so it was impossible even for the most rarefied intellectual to insulate himself from the risks facing the entire society.”

As an example of how they made the study of psychology relevant, Kahneman directed his graduate students at Hebrew University to address the problem of terrorists placing bombs in trashcans around Jerusalem. “What does psychology tell you that might be useful to the government, which is trying to minimize the public’s panic?”

Despite their contrasting personalities, the two psychologists formed a bond that “was more intense than a marriage,” according to Tversky’s actual wife.

“Just to be with him,” Kahneman recalled, “I never felt that way with anyone else, really. You are in love and things. But I was rapt. And that’s what it was like. It was truly extraordinary.”

The two would spend six hours a day together in conversation, testing out ideas. “When one of us would say something that was off the wall, the other would search for the virtue in it,” Kahneman said.

Their first paper published together showed that people mistakenly believed that a small sample size of a large population was more representative than it actually was. The paper had immediate applications to research being conducted at the time by fellow psychologists, who often used sample sizes of 40 subjects when they should have been using at least 130 to have a high level of confidence that they were accurately representing the larger population.

From there, they broadened their research, aiming for an impact beyond academia. Their later work addressed systematic errors that people make in a wide range of areas from investments to medicine.

“`In making predictions and judgments under uncertainty,’ they wrote, `people do not appear to follow the calculus of chance or the statistical theory of prediction. Instead, they rely on a limited number of heuristics which sometimes yield reasonable judgments and sometimes lead to severe and systematic error.’” Example of heuristics, or cognitive shortcuts, are “representativeness” (we expect future NBA stars to look like LeBron James, not like Jeremy Lin), and “anchoring” (we rely too much on a first piece of information, such as a car dealer’s initial sale price offer, even if this early “anchor” is way off base).

Later, they would add many more systematic biases to their list including overconfidence, loss aversion, and the “hindsight bias” that leads people to believe they had predicted an event would occur even though the event was unpredictable.

Lewis shows the enormous impact of Kahneman and Tversky’s work by portraying a handful of individuals in different arenas who have built on their ideas. Houston Rockets executive Morey brought a Moneyball-style scientific approach to the NBA and has enjoyed great success building winning teams. Eminent law professor Cass Sunstein served in the Obama administration and used ideas from behavioral economics to increase participation rates in retirement plans, ease poor kids’ access to free school lunches, and reframe the food pyramid to help people understand how to eat healthier.

Canadian doctor Don Redelmeier, who had the opportunity to conduct research with both Kahneman and Tversky early in his career, became an expert in medical decision-making, helping colleagues avoid critical mistakes. Redelmeier would go on to co-write the first paper showing the danger of talking on cell phones while driving, leading to calls for regulation around the world.

And then there is the iconoclastic Richard Thaler, who challenged classical economics from within. Kahneman and Tversky recognized early on that the premises of economic theory were flawed – people didn’t always make rational, unbiased choices aimed at maximizing their welfare – but they also determined that “there was no point trying to infiltrate economics from psychology. The economists would just ignore intruders.”

Thaler was exactly who they needed to carry their ideas into the most powerful of the social sciences. Lewis quotes Thaler on his excitement upon discovering Kahneman and Tversky’s work. “If people could be systematically wrong, their mistakes couldn’t be ignored. The irrational behavior of the few would not be offset by the rational behavior of the many. People could be systematically wrong, and so markets could be systematically wrong, too.” Lewis describes Thaler’s view of their research as “a truck packed with psychology that might be driven into inner sanctums of economics and exploded.”

Thaler and a few like-minded economists drove the truck, launching the field of behavioral economics despite significant resistance. The power of the ideas that had come from Kahneman and Tversky was undeniable. The stature of behavioral economics rose. Early in his career, Thaler couldn’t land a university job; today, he is a celebrated professor at the University of Chicago’s business school, and he recently served as president of the prestigious American Economic Association. (Thaler’s recent book, Misbehaving, which traces the development of behavioral economics, is extraordinarily good. After you finish Lewis’ book, read Thaler next!)

At its best, the partnership between Kahneman and Tversky was harmonious. They “lost any sense of individual contribution” and didn’t care about receiving individual credit. For their first paper, they had flipped a coin to determine whose name would go first, and then they just alternated the order of names in each subsequent paper.

In time, however, they suffered a falling out as Tversky’s star rose and Kahneman felt increasingly slighted. Tversky accepted an offer from Stanford. Kahneman took a job at the University of British Columbia in Vancouver. Tversky won a MacArthur “genius” grant, and although the only work of his cited in the press release was what he and Kahneman had done together, the press release didn’t even mention Kahneman. “I am very much in his shadow,” Kahneman would say. “I hate the feeling of envy.”

They continued to work together, but the partnership had lost its magic because they no longer felt like equals. The title of Lewis’ book, The Undoing Project, refers to a specific line of inquiry they were working on during this time, but it could also refer to the pair’s entire career of undoing the research findings and commonly held beliefs of others, and it also signifies the undoing of their partnership.

The two reconciled after Tversky was stricken with cancer (he died in 1996), and Kahneman ultimately received the recognition that had previously eluded him, taking a job at Berkeley and then moving to Princeton (where he is an emeritus professor today). In 2002, Kahneman received the Nobel Prize in Economics, which Tversky could not share because the prize is not awarded posthumously. A few years ago, Kahneman published Thinking, Fast and Slow, which deservedly won critical acclaim and became a bestseller. The professor whom a colleague back in Israel had once described as “starving for admiration and affection” finally had it all.

Charlie Gofen is an investment counselor in Chicago who has taught high school and been a newspaper reporter.