Prospect theory teaches us an interesting quirk about how our minds work. It says, we tend to feel the pain of losses more intensely than we feel the joy of gains.
I first learnt about it in the book “Thinking Fast and Slow” by Daniel Kahneman and ever since I read about it, I have always been fascinated by it.
We tend to feel the pain of losses more intensely than we feel the joy of gains.
Below is a real world example of prospect theory that I experienced recently.
The joy of free money
Last month, I received a $10 promotional coupon from Best Buy. That’s right, ten dollars! It was an insignificant amount but it still made me happy. After all, free money is free money.
I quickly decided to use it to buy a car mobile holder that cost $15. Thanks to the coupon, I only had to pay $5 out of pocket. A few days later, the product arrived but unfortunately I had to return it.
The pain of losing free money
After processing the return, I got a refund of $5 on my credit card. The $10 coupon that I used while placing the order was not refunded. I was confused and so I contacted Best Buy’s customer support and spoke to their agents to explain them the issue in detail.
Several calls and about 4-5 hours later, I was really disappointed when they told me that the promotional coupons are non-refundable. And just like that, the $10 coupon was gone!
Prospect theory at play
Here’s the weird thing, technically speaking I hadn’t lost any money in this whole transaction. Still, I felt a deep sense of disappointment and border-line agony for having “lost” the $10 coupon that was “mine”. It felt like a real loss.
When I was thinking about this incident, I realized that this is a classic case of prospect theory at work. If I step back and look at it rationally, I didn’t lose anything at all. The coupon was not real money and it was not even mine in first place.
That $10 was first gained and then lost inside my mind. It wasn’t real money that I had earned or saved. But emotionally, I had felt joy when I got the coupon and I also experienced pain when I lost it.
The main difference here was the intensity of those feelings. The pain of losing the coupon was far greater than the joy of getting it. These feelings align perfectly with the graphical representation of prospect theory as seen below.
It’s fascinating how our minds assign different values to gains and losses, even when they’re insignificant or temporary. While the intensity of these feelings might vary depending on the situation, the underlying pattern always remains the same: losses hurt more than gains satisfy.
Understanding this bias doesn’t always make the feelings disappear, but it’s a helpful reminder that sometimes, our emotional reactions are more about psychology than reality.
As for the coupon, I am over it now.