We all know this: “a bird in the hand is worth two in the bush”. It is a timeless proverb that cautioned generations against taking risks and, just as every other proverb, is a monument of simplicity and avoids every rational scrutiny of the present. Whether people believe in this saying or not, there exists a gap in us while estimating the time value of money.
That was what Prof. Shane Frederick found out in the famous Cognitive Reflection Tests (CRT) that he carried out while at MIT. One of his questions was whether the individual goes for $3400 this month versus $3800 next month. The majority of the subjects preferred 3400, leaving the option of getting more than 11% growth in a month. Now compare that with the 2% rate that the world’s best investor could give you!
The results say something about patience and appreciation about rewards at a future date. In that way, it is not so different from the Marshmallow kids!
While my focus was to highlight our attitude towards risk and deferred gratification, I can’t end this piece without quoting the famous 3-item cognitive reflection test. The questions are:
1) If a bat and ball together cost $1.10 in total. The bat costs $1.0 more than the ball. What is the cost of the ball?
2) If it takes 5 machines 5 minutes to make 5 widgets, how long would it take 100 machines to make 100 widgets?
3) In a lake, there is a patch of lily pads. Every day, the patch doubles its size. If it takes 48 days for the patch to cover the entire lake, how long would it take to cover half?
The clue to these problems? SLOW DOWN.
Cognitive Reflection Test: Shane Frederick
