Belated thanks for the interest and uptake on my post of June 20, on the dispiriting June 3 meeting of the US Treasury Department's Advisory Committee on the Auditing Profession -- here. I've fallen a little behind, having spent all last week working in Europe, where there are some very interesting developments involving the regulators. I'll be coming back to those, after a break for the Fourth of July.
Meanwhile, on a subject that lies behind my primary attention to financial and accountancy matters -- that is, the personal challenges to good risk assessment and priority setting -- I've been working to design a business school course on the tools and methods for choice-making, especially under the constraining limits on knowledge or resources.
A while ago I wrote about my skeptical attitude about casino gambling -- here. The related column below is from the International Herald Tribune of February 23, 2007. Reactions, and ideas for other teachable examples, are invited and welcome:
I recently needed help in choosing a good restaurant in New York. I am not current on the hot dining spots, so — as is typical in the process of daily decision-making — I had to sort and evaluate among competing alternative sources of advice.
The local version of the venerable Michelin red guide is struggling to establish itself in the Big Apple. Against it, the populist little purple Zagat Survey — born as a mimeographed collection of short-take amateur reviews by friends of the eponymous Tim and Nina Zagat — dominates the field.
Why is this? And what does the attempt to bring order among a multiplicity of influences have to say about priority-setting in a world of too much information and not enough certainty?
In one view, perhaps Michelin suffers from a Francophobic backlash against its expert-based star rating system and a century of make-or- break reputation effect in Europe.
Another view, just as likely, is that Zagat users take comfort in input based on common tastes and assumptions about price, quality or status. A Eurocentric critic of haute cuisine is assumed to have tastes that do not match ours. But if a broad sample of "people like us" finds a choice to be congenial, how wrong could we go?
Word-of-mouth has long shaped the successes of movies, music and fashion. Exploiting the principle, marketers in the world of electronic commerce are tracking the footprints of consumers. No sooner do you click-to-buy the Amazon book or the Orbitz vacation ticket than a pop-up appears: "Others who enjoyed your purchase have also bought all this other stuff."
Restaurants achieving favor with the Zagat reviewers tend to keep their high places on its popular list through a self-reinforcing circularity of fan support. Choices are validated by a vague and fuzzy sense of community that is both virtual and thoroughly artificial.
There are two related limitations on this consensus approach. The first, in the lingo of the game-theoreticians, is that of salience — the degree of importance, and especially the consequences, if the decision goes wrong. With standards that are subjective, the concept of a "good" dinner is elusive. But where the extent of commitment is limited to the price of a meal, the consequences are transitory and the downside is modest.
As a check on how much priority- setting can be done this way, think how tolerant we are of weather forecasters. They hang out their predictions every day, but they are never held accountable for the fickleness of actual outcomes. Because who really cares? For most of us, a surprise shower without an umbrella means at worst the discomfort of a change of wet clothes.
But for some people and in some cases, the degree of weather-prediction salience could be very high. Think of the impact on the launch of a space shuttle or the timing of a crop harvest or the order to evacuate before a coastal storm. When it is critical, decision makers will search well beyond the evening news or the farmers' almanac.
And that's the second limitation on consensus: when high-salience decisions demand high-level expertise.
Airline passengers may well consider each others' views about the choices of in-flight meals. But they are not invited to take a poll on the preferred way to fly the airplane. Likewise, hospital emergency room patients are not treated by popular vote, but under the leading judgment and expertise of the trauma surgeon. "Close enough" and "good value for the price" are not satisfactory performance standards for landing an Airbus or performing the Heimlich maneuver.
A hazard in daily life lies in sorting out what really matters from what doesn't. If a wardrobe advisor gets a style fad all wrong, the downside is an ill-considered garment that goes straight to the charity bin. But if an investment adviser gets a market trend or a sector swing all wrong, the downside could be a multi-decade asset impairment.
Taking a brother-in-law's hot tips on a wine choice can't cost very much, and might be good for family relations. Taking his hot tips in managing a retirement fund, on the other hand, could be hazardous to financial health.
External oversight can provide some help. We assume the competence of the airline pilot, without an interview about training and license; same for the bus driver and the pharmacist.
Still, as President Ronald Reagan advised when dealing with the Soviet Union on disarmament, "Trust — but verify." Which is why we'll compare among our friends' dining experiences, and why second opinions are commonplace in medical systems that are privately administered and insured.
Is there the same rigor in financial management decisions? A host of important choices might be candidates for second opinions: the size and structure of insurance programs, the details of estate plans, the percentage allocations among portfolio sectors, the deployment details within sectors.
The investment professionals do it, we know for sure. The awe-inspiring performance of the university endowment funds owes in good part to aggressive, hands-on maintenance of programs divided among advisers who compete for results and favor. How many of us are willing to do the same? It's a good guess that more energy goes into surveying our friends as to where to dine out.
Speaking of which, my hotel concierge in New York got me a table in an unreviewed little place down the street. I wouldn't have sought or taken his word on my retirement account. But acting on his advice and influence, I ate contentedly and well — which was all I could expect.
Comments