Science in business? Say 'yes', for success!

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Permalink Reply by Dr. Krishna Kumari Challa on April 24, 2016 at 5:47am

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Actuarial science is the discipline that applies mathematical and statistical methods to assess risk in insurance, finance and other industries and professions. Actuaries are professionals who are qualified in this field through intense education and experience. In many countries, actuaries must demonstrate their competence by passing a series of rigorous professional examinations.

Actuarial science includes a number of interrelated subjects, including mathematics, probability theory, statistics, finance, economics, and computer science. Historically, actuarial science used deterministic models in the construction of tables and premiums. The science has gone through revolutionary changes during the last 30 years due to the proliferation of high speed computers and the union of stochastic actuarial models with modern financial theory

 

Business? No this is science! Psychology, actually.

The Decoy Effect :

This one is not an uncommon fact, but I have seen a lot of people fall for it, me included…
It’s a strategy that is often used by marketers to increase sales…

Imagine a scenario where you go have come to watch a movie by yourself. You want to buy some popcorn.

Scenario 1:

At the popcorn stall , you notice that the popcorn bucket comes in two sizes, large and small. The large one is too big, and small one is not enough for you…The large costing 7 dollars, and the small costing 3 dollars…Which one would you go for?

Most people would go for the small bucket, they might even spend 6 dollars and buy two small buckets if they feel the quantity to be insufficient, but rarely will one go for the large bucket, because the large bucket costs way too much.

Scenario 2:

This time, the popcorn stall has 3 choices for you…a small size, a medium size, and a large size costing as follows:

Which one would you choose?

This time, a staggering number of people would buy the large size…because they see a medium size, costing them 6.5 dollars, and a much larger one costing them only 50 cents more.
You are not more hungrier, neither are you more richer, but the medium sized bucket has persuaded you to buy the one which the seller wants you to buy, because you felt you were getting a better deal !

This is called the Decoy effect. You can see how it works at malls where they put up sales. Buy 2 at the price of 1 or buy 1 at 30% off…and they know you are going to buy 2 jeans and spend 1000 bucks, than buy 1 and spend 700…because , well, you are getting two at the price of one! And the funny thing is you might not even need a jeans !

Courtesy: Brain Games, Power of Persuasion

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Our brain thinks on the Logarithmic Scale, instead of the additive scale. This means that our brain thinks in proportions instead of differences.

Thus, we subconsciously believe that the difference between 2 and 1 is greater than the difference between 3 and 2 and so on...

The first scale here is the logarithmic scale while the second one is the commonly used additive scale.

It comes in handy in most practical life situations but sometimes, it causes some problems too.

Take a look at the following scenarios

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• Case 1: There is one tiger in front of you.
• Case 2: There are two tigers in front of you.

Obviously, you are more scared in case 2 than you are scared in case 1.

• Case 3: There are 100 tigers in front of you.
• Case 4: There are 101 tigers in front of you.

Now in cases 3 and 4, even though the difference in the number of tigers is the same, the difference in the fear you feel in case 4 is negligible to the fear in case 3, whereas this difference is quite substantial in cases 1 and 2.

This is because, in cases 1 and 2, the no. of tigers gets doubled. Hence theproportion is comparatively larger, than in cases 3 and 4.

Thus, logarithmic thinking helps our survival instincts and judge cases practically and comes in handy.

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But in some cases, logarithmic thinking causes problems too. You wouldn't be as happy on getting a $5 discount on a $2000 object as you would be on getting a $5 discount on a $10 object.

This is because, in the first case, you are getting a lower proportion of discount whereas in the other case, the proportion of discount is greater. Although, the amount of the discount is the same i.e. 5 dollars.

Hence, even though we learn to count on the additive scale, our brains were wired to count on the logarithmic one.