Every single person has a mental model.
When assessing the likelihood of an event, the individual bases the event’s probability upon its similarity to that model.
This is called representativeness bias.
Availability bias involves one’s perception of an event’s frequency based upon its vividness and frequency in the forefront of one’s mind.
Now, let’s take a look at how this second mechanism – representativeness bias – distorts judgment and decision-making.
Marriage & Divorce
One example of representativeness bias involves marriage.
Many people’s mental model of marriage is that of a lifelong partnership. Not often does a couple enter into a marriage with a view of divorce.
Due to their mental model of eternal love, only around 5 percent of couples in the U.S. sign a prenup, despite around 50 percent of marriages ending in divorce, according to research by Harvard Law.
Somehow, most don’t consider they’ll be part of the statistic and, so, don’t plan for it.
In this way, the power of representativeness bias is stronger than the logic of probability.
Representativeness Bias in Business Decisions
Culture, of course, influences our mental models, and so representativeness biases are grounded in culture.
Let’s look at another example of how a business decision revealed representativeness bias, likely to the detriment of the business.
The global insurance company, Allianz, had built business in eleven African countries. Although profitable, the business was small and, in March 2014, Allianz reviewed their strategy on the continent.
They narrowed their way forward down to two roads: 1) apply aggressive growth through acquisition, or 2) wholly sell off the business.
The board of Allianz was presented with a growth strategy. They rejected it.
Their view was that Africa’s corruption was too extensive and might put the insurance company at reputational risk.
However, Allianz continued to do business throughout Eastern Europe.
According to the Transparency International list – an index of worldwide national corruption – several countries in Eastern Europe, in which the insurance group remained, rated equally corrupt as their African counterparts.
The West’s mental model of Africa considers the entire continent as one monolith of extreme corruption, thereby biasing judgment in lieu of logical probability.
In dismissing growth based on representativeness bias, the company may have lost out on a successful business venture and the profitability that accompanied it.
Tune in next week for anchoring bias.