Bounded Rationality and Beyond
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Bounded Rationality and Beyond
News on the effects of bounded rationality in economics and business, relationships and politics
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Thanks to audit firms, Math Men are taking over Madison Avenue

Thanks to audit firms, Math Men are taking over Madison Avenue | Bounded Rationality and Beyond | Scoop.it
Deloitte has purchased Seattle digital ad agency, Banyan Branch. Price Waterhouse Coopers has picked up New York digital creative shop, BGT.
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What Big Data Means For Social Science

What Big Data Means For Social Science | Bounded Rationality and Beyond | Scoop.it

We've known big data has had big impacts in business, and in lots of prediction tasks. I want to understand, what does big data mean for what we do for science? Specifically, I want to think about the following context:  You have a scientist who has a hypothesis that they would like to test, and I want to think about how the testing of that hypothesis might change as data gets bigger and bigger. So that's going to be the rule of the game. Scientists start with a hypothesis and they want to test it; what's going to happen?


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Can psychology explain our dumb financial decisions?

Can psychology explain our dumb financial decisions? | Bounded Rationality and Beyond | Scoop.it

What a financial planner and a Nobel Prize-winning psychologist know that you don’t.  We can trick ourselves into thinking we are taking the right risks with our money(iStock)

Harold Evensky, who leads financial planning for the firm Evensky & Katz, has long tried to protect his clients from allowing their personal psychological hang-ups to undermine sound financial decisions.  

While such is the goal of most, if not all, financial planners, some of Evensky's inspiration has come from an unlikely source — a client. But not just any client. Evensky has gleaned valuable insights into behavioural economics from Nobel Prize-winning psychologist, Daniel Kahneman.

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Terence R. Egan's curator insight, November 19, 2013 1:08 AM
 [KEY POINTS] 

Harold Evensky spoke with BBC Capital about how he incorporates teachings from behavioural economics in his own work.

 

People are used to thinking that they don’t want to take risk. The reality is that most investors don’t want to take a risk to get rich, but they will take a risk not to get poor.

 

[Behavioural finance shows that] if you give someone a choice of, say, a 100% chance that they will get $800,000 or an 80% chance that they will get $1,000,000 and a 20% chance they get nothing, they take the sure thing. Turn that around, a 100% chance of losing $800,000 or an 80% chance that they lose $1,000,000 and a 20% chance of losing nothing, they gamble.  It’s exactly the same question, but it helps client’s understand the difference between being risk averse and loss averse.

 

If you have a chain of four events, each assigned a 90% probability of occurring, the actually likelihood of your expected outcome is actually 66%. Which number are you making your decision on — 90% or 66%?

People have significant challenges when it comes to mental math.

 

Similarly, losses hurt more than gains. A client came in after the tech bust — a retired surgeon, the classic curmudgeon. He said, “I don’t get it, I was up 80% last year, but down 60% this year and I’m under water. Shouldn’t I be up 20%?” Mental math prevents you from realizing that the gain from one year and loss from the next are not on the same basis.

 

BBC Capital: How do you respond to a client who brings you a hot tip or investment idea?

 

[I say]  “I don’t know anything about that, tell me about it.” Then we hear all of the great things that could happen to their money … [then I explain] If it works, you can take an annual cruise around the world. If it doesn’t work, you have to work three more years. This gives them completely different [perspectives].

 

People often confuse certainty and safety. If they tell me “I don’t want to take risk,” I say “Go bury [your cash] in the backyard, but let’s look at the consequences to your life style.” Don’t trust social security? Then keep working. There are consequences to conservative decisions that might make them anything but conservative [choices].

 

 

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Law and Behavioral Science: Removing the Rationality Assumption from Law and Economics by Russell B. Korobkin, Thomas S. Ulen :: SSRN

Law and Behavioral Science: Removing the Rationality Assumption from Law and Economics by Russell B. Korobkin, Thomas S. Ulen :: SSRN | Bounded Rationality and Beyond | Scoop.it
Abstract:      
As law and economics turns 40 years old, its continued vitality is threatened by its unrealistic core behavioral assumption: that people subject to the law act rationally. Professors Korobkin and Ulen argue that law and economics can reinvigorate itself by replacing the rationality assumption with a more nuanced understanding of human behavior that draws on cognitive psychology, sociology and other behavioral sciences, thus creating a new scholarly paradigm called "law and behavioral science". This article provides an early blueprint for research in this paradigm. 

The authors first explain the various ways the rationality assumption is used in legal scholarship, and why it leads to unsatisfying policy prescriptions. They then systematically examine the empirical evidence inconsistent with the rationality assumption and, drawing on a wide-range of substantive areas of law, explain how normative policy conclusions of law and economics will change and improve under the law-and-behavioral-science approach. 

 

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The Status Quo Bias and Contract Default Rules by Russell B. Korobkin :: SSRN

The Status Quo Bias and Contract Default Rules by Russell B. Korobkin :: SSRN | Bounded Rationality and Beyond | Scoop.it

.Abstract:      

The rich law and economics literature on contract default rules - that is, terms that govern relationships between contracting parties only if those parties do not explicitly agree to other terms - presumes that the legal system's choice of default rules will not affect individual negotiators' underlying preferences for contract terms. Judgment and decision making literature on the "status quo bias" suggests that if bargainers perceive default terms as part of the status quo they will prefer the substantive content of those terms more than they would if other terms were the legal defaults. This paper presents a study designed to test this hypothesis. 

151 law students were asked to provide advice to a client in a number of hypothetical contract negotiation scenarios with the content of the default terms manipulated between experimental groups. The results suggest that the choice of legal default terms affects not only what terms contracting parties will agree upon but also what terms they actually prefer. The paper presents the experimental results, considers various theoretical explanations for the results, and suggests how the results should impact legal scholars' analysis of what contract default rules are optimally efficient.  

 

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A 'Traditional' and 'Behavioral' Law-and-Economics Analysis of Williams v. Walker-Thomas Furniture Company by Russell B. Korobkin :: SSRN

A 'Traditional' and 'Behavioral' Law-and-Economics Analysis of Williams v. Walker-Thomas Furniture Company by Russell B. Korobkin :: SSRN | Bounded Rationality and Beyond | Scoop.it
Abstract:      
Williams v. Walker-Thomas Furniture Company is a casebook favorite, taught in virtually every first-year Contract Law class. In the case, the D.C. Circuit holds that courts have the power to deny enforcement of contract terms if the terms are "unconscionable," and it remands the case to the lower court to consider whether the facts of the case meet this standard. This article, written for a session of the 2004 AALS Annual Meeting sponsored by the Contracts Section, analyzes the question that the D.C. Circuit posed to the lower court in Williams - and that Contracts teachers routinely pose to their students - from a "traditional" law-and-economics perspective, and from a "behavioral" law-and-economics perspective.
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Behavioural Economics in Competition and Consumer Policy

Behavioural Economics in Competition and Consumer Policy | Bounded Rationality and Beyond | Scoop.it

Click one of the images to download a copy of Behavioural Economics in Competition and Consumer Policy (pdf: colour 2.89MB / grayscale 3.01MB)

"This book summarises the most significant developments in thinking in this area: for some it will be an accessible introduction, for others a reminder and a reference point to the more detailed analytical studies that are available." - Sarah Chambers 

The implications of behavioural economics for competition and consumer policy have received keen interest from academics and policy-makers in recent years. CCP researchers have approached this topic from the perspectives of economics, law, politics and business management in writing Behavioural Economics in Competition and Consumer Policy, which reflects the Centre's interest, expertise and multidisciplinary approach to policy-making.

The book draws on researchers' insights, based on surveys, experiments, theoretical work and market case studies, into specific behavioural issues and how these may or may not be resolved by intervention. The book's intended audiences are policy-makers and practitioners who may be weighing up whether and how to take the evidence on behavioural traits into account when considering intervention in markets. The book has been written to make it accessible to a wide range of readers, whether in public, private or third sector organisations. It comprises an Introduction and Glossary followed by eight chapters that include real-world case studies. It can be read as an introduction to the area, or as a reminder and a reference point to the more specialised analytical studies that are available.

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Schafer: Here's how our stupid choices may be rational

The marketing professor Vladas Griskevicius thinks we humans are not nearly as stupid as he once thought.

Yes, we can drop $3,200 on engagement rings when many marriages end in divorce or spend $5,000 to $7,000 more on a Toyota Prius hybrid than a fuel-efficient conventional car, but he said that we have perfectly rational reasons for doing so.

Not that we really understand why these choices were rational, because we probably didn’t get that our brains were trying to achieve some deep-seated evolutionary goal.

Griskevicius teaches at the University of Minnesota’s Carlson School of Management and was trained as a psychologist, and his writing partner in a new book coming out next week, Doug Kenrick, is a psychology professor at Arizona State. Their term “deep rationality” is the key idea in their entertaining and informative book called “The Rational Animal: How Evolution Made Us Smarter Than We Think.”

 


Read more at http://www.startribune.com/business/221574551.html#mJBW0VbYmuRl1GmI.99

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Mark Waser's curator insight, November 10, 2013 8:52 PM

More and more people are figuring it out -- inappropriate reductionism is what is irrational and stupid, not the way our brains have evolved.

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The cognitive neuroscience of creativity

This article outlines a framework of creativity based on functional neuroanatomy. Recent advances in the field of cognitive neuroscience have identified distinct brain circuits that are involved in specific higher brain functions. To date, these findings have not been applied to research on creativity. It is proposed that there are four basic types of creative insights, each mediated by a distinctive neural circuit.

By definition, creative insights occur in consciousness. Given the view that the working memory buffer of the prefrontal cortex holds the content of consciousness, each of the four distinctive neural loops terminates there. When creativity is the result of deliberate control, as opposed to spontaneous generation, the prefrontal cortex also instigates the creative process. Both processing modes, deliberate and spontaneous, can guide neural computation in structures that contribute emotional content and in structures that provide cognitive analysis, yielding the four basic types of creativity. Supportive evidence

from psychological, cognitive, and neuroscientific studies is presented and integrated in this article.

The new theoretical framework systematizes the interaction between knowledge and creative thinking, and how the nature of this relationship changes as a function of domain and age. Implications for the arts and sciences are briefly discussed.

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Irrationality in Economic Decisions — Some Historical Considerations

Irrationality in Economic Decisions — Some Historical Considerations | Bounded Rationality and Beyond | Scoop.it

Drawing from history and psychology, behavioral economics offers a radically different perspective to help us understand how people, organizations and markets really operate in comparison to the traditional economic models. Behavioral economics’ lens on human behavior posit that people are bound by biases they are largely unaware of, thus assuming that their behavior is based on rational economic decision-making processes. Much of the hypothesis testing governing behavioral economics is based on experiments carried out in controlled laboratory conditions. Some traditional economists argue that while the results of these experiments are interesting, they do not invalidate the rational models of traditional economics. Relegating behavioral economics to the fringes of economics, they cite the controlled nature of behavioral experiments carried out by psychologists as the reason why these experiments fail to take into account the most important regulator of perceived rational behavior, the large competitive marketplace.7

Another reason why psychological and social aspects of human behavior do not feature in economic theory is that theoretical economics developed rapidly in the 1950s. In its quest to be recognised as a science, economists simplified their models to make them more scientifically rigorous and mathematically treatable. At the time, psychology was an evolving discipline and was yet to branch into the economic domain of human behavior. Whatever the reasons, the near collapse of the world financial markets at the turn of this decade, and the admission by some of the most powerful players in politics, economics and global finance, that they were clueless about the pending economic disaster and what to do about it, has brought the debate about behavioral economics’ contribution to economic thought into the mainstream.

 

Via Emre Erdogan
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Game interrupted: The rationality of considering the future

Game interrupted: The rationality of considering the future | Bounded Rationality and Beyond | Scoop.it

The “problem of points”, introduced by Paccioli in 1494 and solved by Pascal and Fermat 160 years later, inspired the modern concept of probability. Incidentally, the problem also shows that rational decision-making requires the consideration of future events. We show that naïve responses to the problem of points are more future oriented and thus more rational in this sense when the problem itself is presented in a future frame instead of the canonical past frame. A simple nudge is sufficient to make decisions more rational. We consider the implications of this finding for hypothesis testing and predictions of replicability.


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Belief in the unstructured interview: The persistence of an illusion

Abstract

Unstructured interviews are a ubiquitous tool for making screening decisions despite a vast literature suggesting that they have little validity. We sought to establish reasons why people might persist in the illusion that unstructured interviews are valid and what features about them actually lead to poor predictive accuracy. In three studies, we investigated the propensity for “sensemaking” - the ability for interviewers to make sense of virtually anything the interviewee says—

and “dilution”—the tendency for available but non-diagnostic information to weaken the predictive value of quality information. In Study 1, participants predicted two fellow students’ semester GPAs from valid background information like prior GPA and, for one of them, an unstructured interview. In one condition, the interview was essentially nonsense in that the interviewee was actually answering questions using a random response system. Consistent with sensemaking, participants formed interview impressions just as confidently after getting random responses as they did after real responses. Consistent with dilution, interviews actually led participants to make worse predictions. Study 2 showed that watching a random interview, rather than personally conducting it, did little to mitigate sensemaking. Study 3 showed that participants believe unstructured interviews will help accuracy, so much so that they would rather have random interviews than no interview. People form confident impressions even interviews are defined to be invalid, like our random interview, and these impressions can interfere with the use of valid information. Our simple recommendation for those

making screening decisions is not to use them.

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Animal Spirits: How Human Psychology Drives the Economy, and Why it Matters for Global Capitalism

Speaker: Professor Robert J. Shiller
Chair: Professor David Webb
This event was recorded on 20 May 2009 in Old Theatre, Old Building
The global financial crisis has made it painfully clear that powerful psychological forces are imperiling the wealth of nations today. From blind faith in ever-rising housing prices to plummeting confidence in capital markets, "animal spirits" are driving financial events worldwide. Robert Shiller will put forward a bold new vision that will transform economics and restore prosperity.
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Soda Consumption Connected to Behavioural Problems in Children

Soda Consumption Connected to Behavioural Problems in Children | Bounded Rationality and Beyond | Scoop.it
A new study of 2,929 5-year-old children has found a link between consuming sodas and bad behaviour.

The US researchers found that children who drank more soda were more likely to be aggressive, to have attention problems, to get into fights and to destroy other people’s belongings (Suglia et al., 2013).

This backs up findings in adolescents that have linked drinking more soda to self-harm, aggression, depression and even suicidal thoughts (Lien et al., 2006; Solnick & Hemenway, 2013).

Among the 5-year-olds, 43% consumed at least one soda per day and 4% had 4+ servings per day. Those consuming four or more sodas a day were twice as likely to be involved in bad behaviours as those who drank none

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curiousjohn's curator insight, November 14, 2013 8:43 PM

This is why I think giving kids soda constitutes child abuse.

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Economists As Experts: Overconfidence In Theory and Practice

Economists As Experts: Overconfidence In Theory and Practice | Bounded Rationality and Beyond | Scoop.it
Drawing on research in the psychology of judgment and decision making, I argue that individual economists acting as experts in matters of public policy are likely to be victims of significant overconfidence. The case is based on the pervasiveness of the phenomenon, the nature of the task facing economists-as-experts, and the character of the institutional constraints under which they operate. Moreover, I argue that economist overconfidence can have dramatic consequences. Finally, I explore how the negative consequences of overconfidence can be mitigated, and how the phenomenon can be reduced or eliminated. As a case study, I discuss the involvement of Western experts in post-communist Russian economic reforms.
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CFA Institute Conference Proceedings Quarterly : Risk Management beyond Asset Class Diversification | CFA Institute Publications.

Abstract

Asset allocation is evolving into an approach based on forecasts driven by macroeconomics and risk factor diversification. The dynamic nature of markets requires both secular and cyclical investment horizons. In addition, investors should look beyond volatility as a measure of risk and explicitly estimate the risk of tail events.

 
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Heuristics and Biases at the Bargaining Table by Russell B. Korobkin, Chris Guthrie :: SSRN

Heuristics and Biases at the Bargaining Table by Russell B. Korobkin, Chris Guthrie :: SSRN | Bounded Rationality and Beyond | Scoop.it
Abstract:      
In this essay, written for a symposium on The Emerging Interdisciplinary Cannon of Negotiation, we examine the role of heuristics in negotiation from two vantage points. First, we identify the way in which some common heuristics are likely to influence the negotiator's decision-making processes. Namely, we discuss anchoring and adjustment, availability, self-serving evaluations, framing, the status quo bias, contrast effects, and reactive devaluation. Understanding these common heuristics and how they can cause negotiators' judgments and choices to deviate from the normative model can enable negotiators to reorient their behavior so it more closely aligns with the normative model or, alternatively, make an informed choice to take advantage of the effort-conserving features of heuristics at the cost of the increased precision that the normative approach offers. Second, we explore how negotiators might capitalize on the knowledge that their counterparts are likely to rely on heuristics in their decision-making processes. We consider, in other words, how negotiators can exploit heuristic reasoning on the part of others for personal gain.
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The Status Quo Bias and Contract Default Rules by Russell B. Korobkin :: SSRN

The Status Quo Bias and Contract Default Rules by Russell B. Korobkin :: SSRN | Bounded Rationality and Beyond | Scoop.it
Abstract:      
The rich law and economics literature on contract default rules - that is, terms that govern relationships between contracting parties only if those parties do not explicitly agree to other terms - presumes that the legal system's choice of default rules will not affect individual negotiators' underlying preferences for contract terms. Judgment and decision making literature on the "status quo bias" suggests that if bargainers perceive default terms as part of the status quo they will prefer the substantive content of those terms more than they would if other terms were the legal defaults. This paper presents a study designed to test this hypothesis. 

151 law students were asked to provide advice to a client in a number of hypothetical contract negotiation scenarios with the content of the default terms manipulated between experimental groups. The results suggest that the choice of legal default terms affects not only what terms contracting parties will agree upon but also what terms they actually prefer. The paper presents the experimental results, considers various theoretical explanations for the results, and suggests how the results should impact legal scholars' analysis of what contract default rules are optimally efficient. 
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What Comes After Victory for Behavioral Law and Economics? by Russell B. Korobkin :: SSRN

What Comes After Victory for Behavioral Law and Economics? by Russell B. Korobkin :: SSRN | Bounded Rationality and Beyond | Scoop.it
Abstract:      
The battle to separate the economic analysis of legal rules and institutions from the straightjacket of strict rational choice assumptions has been won by the proponents of behavioral law and economics. With the revealed preferences assumption of neoclassical economics - that individual behavior necessarily maximizes subjective expected utility - discarded, what comes next for the discipline of law and economics? The article argues that theorists should turn their attention to a series of philosophical and methodological problems that surround the measurement of subjective expected utility: (1) the need to recognize and value autonomy for its own sake, separate from its ability to enhance utility; (2) the need to advance a theory of subjective utility that takes into account the use of heuristics in the construction of preferences as well as in understanding facts and judging probabilities; and (3) the need to recognize and confront the consequences of individual difference in the extent of bounded rationality.
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Les behavioral economics sont-elles un revamping sale des théories pavloviennes?

Les behavioral economics sont-elles un revamping sale des théories pavloviennes? | Bounded Rationality and Beyond | Scoop.it
S'il y a peu de doute sur l'invisibilité des variables constitutives d'une expérience de marque, l'effet de mode dont bénéfice l'économie comportementale a le goût d'une régression du point de vue ...
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Steve Ahlquist: Behavioral Economics and Humanist Values

Steve Ahlquist: Behavioral Economics and Humanist Values | Bounded Rationality and Beyond | Scoop.it

Humanism has long described itself as a progressive philosophy of life, but exactly what the word “progressive” means seems a matter open to debate. If the term is to be understood in a political or economic sense, then certain narrow assumptions apply, however, if one holds the term in the stricter sense of only pertaining to civil liberties, then the meaning of the term can be widened to the point at which it loses almost any relevant meaning in the world today.

Progressive politics today seems to have coalesced around a kind democratic socialism, that is, simply stated, a maximizing of individual freedoms within the context of a strong social safety net. Under such a system one would expect a full range of liberties as might be found in the United Nations Declaration of Human Rights, and a full range of protections that can be afforded by a strong central government. Universal health care, social security, a fair and just criminal court system, and a mandatory living wage would exist at the high end of such a system today, while basic liberties such as freedom of speech, fair and just elections, freedom of association and freedom of conscience would at a minimum exist at the low end.

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Second Order Swarm Intelligence

Second Order Swarm Intelligence | Bounded Rationality and Beyond | Scoop.it

In order to solve hard combinatorial optimization problems (e.g. optimally scheduling students and teachers along a week plan on several different classes and classrooms), one way is to computationally mimic how ants forage the vicinity of their habitats searching for food. On a myriad of endless possibilities to find the optimal route (minimizing the travel distance), ants, collectively emerge the solution by using stigmergic signal traces, or pheromones.

 
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Why Obamacare is a Success? It's for nudge?

There are 2 major political parties in America. I’m a member of the naïve, stupid, and cowardly one. I’m a Republican. How stupid is the GOP? They still don’t get it. I told them 5 years ago, 2 books ago, a national bestseller ago (“The Ultimate Obama Survival Guide”), and in hundreds of articles and commentaries, that Obamacare was never meant to help America, or heal the sick, or lower healthcare costs, or lower the debt, or expand the economy.

 

The GOP needs to stop calling Obamacare a “trainwreck.” That means it’s a mistake, or accident. That means it’s a gigantic flop, or failure. It’s NOT. This is a brilliant, cynical, and purposeful attempt to damage the U.S. economy, kill jobs, and bring down capitalism. It’s not a failure, it’s Obama’s grand success. It’s not a “trainwreck,” Obamacare is a suicide attack. He wants to hurt us, to bring us to our knees, to capitulate- so we agree under duress to accept big government.

 

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Society for Judgment and Decision Making newsletter is ready for download

Society for Judgment and Decision Making newsletter is ready for download | Bounded Rationality and Beyond | Scoop.it
SOCIETY FOR JUDGMENT AND DECISION MAKING NEWSLETTER
 
The quarterly Society for Judgment and Decision Making newsletter is ready for downloading:
http://sjdm.org/newsletters/
It features jobs, conferences, announcements, and more.
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Gesturing While Talking Influences Thoughts

Gesturing While Talking Influences Thoughts | Bounded Rationality and Beyond | Scoop.it

When people gesture with their hands while talking, it helps change their thoughts. If you ask someone to show you how to tie their shoe-laces or play Jenga, they will almost certainly use their hands to do so.

Even people who have been blind from birth, and have never seen gestures, still use them while they talk. But these gestures aren’t just a way of communicating, they may also be a way of abstracting and encoding the information.

In a study investigating how gestures interact with thoughts, Beilock and Goldin-Meadow (2010) had participants trying to solve a test often used by psychologists called ‘The Tower of Hanoi’ task.

Essentially this involves moving some blocks from one tower onto another.

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