Overconfidence: Bad Decision Making in Energy Businesses?

By Donald Ukpayang

Problem solving is a mental process involving moving from an initial state to a more desired goal state. It is considered to be a very complex intellectual function which involves the synchronization of techniques and fundamental skills to tackle challenges- so as to achieve goals. The problem solver who allocates and maximizes resources through knowledge of his/her internal and external environment in order to achieve group or societal goals is described as a leader (Adair.J, 2002, pg 4). A leader becomes effective when making decisions which benefit the group or organization dedicating its resources and support to accomplish a proposed task set out. However, what matters most is how well a leader can make good decisions. Making a good decision demands the possession of certain qualities and characteristics such as drive, honesty, integrity, intelligence and self confidence.  These traits possessed by an individual separate a leader from a non leader- as explained by the trait theory of leadership (see Avery, 2006, p.72) and they in turn influence certain behavioural characteristics which assist in making a good decision.

The leadership trait of self confidence is of importance in making decisions, and it is the subject of discussion in this article. Self confidence and overconfidence are considerably good traits found in leaders which enable leaders to display emotional stability, even temperament and ability to deal with stress (Avery, 2006, p.71). However, in many instances self confidence and overconfidence have been linked to be the root cause of bad decision making.

Is being overconfident at the heart of many bad decisions? This question posed is very relative, and this article looks critically at this question. A quantitative methodology is applied to analyse and deduce findings to serve as a possible answer to the question posed.

Overconfidence is a purely mental phenomenon that results when a person’s confidence in judgment is considerably greater than his or her objective accuracy. Previous experiments on overconfidence have brought about findings that create an inversely proportional relationship between overconfidence and accuracy. 

Data Source: (Lichtenstein and Fischoff: Overconfidence note: pg 219)

With reference to the figure above:

• Overconfidence is greatest when accuracy is close to near chance value of 50%
• As accuracy increases from 50% to 80% overconfidence decreases from 90% to 40%
• As accuracy peaks at 90%, a situation of under confidence sets in at 10% confidence level

Certain factors are being linked to be the main causes of overconfidence.

Causes of Overconfidence

• Physiological: This is caused by the effect of different chemicals and hormones, either produced by the body or taken as a drug. The effect of these chemicals goes a long way to increasing confidence levels.
• Psychological: This is caused by the effect of traits and beliefs which influence attitude and behaviour. Certain psychological theories create a link between the belief of people and the influence it has on attitude and behaviour.

Psychological theories

The following psychological theories listed below are used to expantiate on the link that exists between belief and its influence in facilitating overconfident behaviour and attitude, causing bad decision making:

• Theory of selective perception: “States we do not first see, then define, we define first and then see” stated by Walter Lippmann (see Pious, chapter 1-4, pg 16). This theory ascertains the fact that as humans we tend to interpret meaning to things based on what we expect. This belief creates a bias in judgement, and an overconfident attitude towards decision making. In this context, self perception bias is divided into anchoring, confirmation, and availability bias.

(i)            Availability bias: Bias caused by not taking into consideration other ways things can be manifested.

(ii)           Confirmation bias: Caused by finding one sided support to strengthen beliefs through seeking confirming evidences.

(iii)          Anchoring bias: Caused by sticking to one value or idea

( Russo.J.E and Schoemaker .P.J.H:1992;pg11) 

• Theory of Hindsight Bias: Hindsight bias which is otherwise known as the “knew it all along effect”  talks about how people predict the outcome of an event without prior knowledge, and how the stance of prediction changes on receiving the result of the prediction.  (Pious Chapter 1-4, pg 37).
• Theory of Group Think: This theory discusses the decision making process in groups; it expantiates on group conformity, influence and cohesiveness in order to maintain group norms and objectives. (Hewstone.M and Stroebe.W, 2003, pg 75)
• Theory of Cognitive Dissonance: This theory explains how humans experience internal conflicts that emerge from a negative state of mind, which then instigates behavioural changes and thoughts which justify rationality to reduce such disagreement or dissonance. (see Pious Chapter 1-4, pg 23: Leon Festinger,1957).
• Theory of Self fulfilling prophecies: This theory explains how people judge based on stereotypes.( see note on Behavioural Traps, Chapter 21,pg 237
• Halo effect: This theory explains how certain traits or characters of people are used in deriving judgement. E.g. Good looking people are perceived to have better jobs than less attractive people.

These theories are applied to three case scenarios involving leaders making bad decisions due to overconfidence.

 Military

Leader:  Adolph Hitler

Traits and belief:  Hitler is described as a painter “by trade”; this is attributed to his strong visionary skills which enabled him to paint a vision of a German empire as the sole ruler of the world (see Grint. K, 2000, pg 289). Hitler’s belief in the “Aryan purity”, coupled with his prowess in making the best speeches, created a platform to mobilize people adequately. These traits and beliefs enabled him to canvass support from the German populace to share in his vision and also created overconfidence in his ability.

Bad decision:  Operation Barbarossa was A German code name for the invasion of the Soviet Union in World War Two. It aimed at satisfying Hitler’s quest for Russia’s industries and agricultural land to become part of Germany. Hitler’s strategy of combating the Soviet Union defense line was of great questioning, due to overconfidence in his ability. Hitler failed to countenance the advice of his subordinates to stabilize the eastward expansion of the Reich and exploit the anti communism of the Russian and non Russian populace, which could serve as a means of alliance and thereby increase his military work force (see Availability Bias: Edward Russo.J and Schoemaker P.J.H,1992:pg 11). Failure to compromise his ambition for the goals his military advisers thought were unachievable created flaws in Hitler’s strategic plan of defeating the Soviet Union. Hitler’s overconfidence further stemmed from the crushing defeat which his army had administered in Poland, France, Norway and Belgium; this achievement boosted his morale of re-applying the same strategy to defeating the Russians (see Anchoring Bias: Edward Russo.J and Schoemaker P.J.H,1992:pg 11). His success in previous battle also prompted the “I knew it all along effect” (see hindsight bias: Pious chapters 1-4, pg 37). So overconfident was Hitler that he assumed the war in the east was already won, instructing the diversion of economic resources from the army to the air force and the navy in preparation for the coming war against Britain and the USA. (See Grint.K,pg 339: 2000). The failure of an invasion was inevitable. No account of any sort of planning or assessment by the logistics department was noted before the attack. Army personnel in one of the vital units of Operation Barosssa were deployed from Ukraine and Romania to join in the theatres of battle in the Balkans, further weakening the military strength. All these were products of overconfidence which Hitler piloted, leading to the defeat of the German army.

Politics

Leader: Colin Powell

Traits and belief: In a bid to understand the beliefs of Colin Powell that created the overconfidence effect in him, it is of great importance to note the existence of group decision making characterized by the phenomenon of group dynamics. In the presidential cabinet, decisions are made in the group decision making format. The most senior member of the cabinet is the secretary of state; he is in charge of supervising the group to conform to group norms and objectives. (see group think: Hewstone.M and Stroebe.W, 2003, pg 75). This position occupied by Colin Powell ensures support for any decision made by the president, prompting conformity on the parts of the members of the cabinet. This influence is characterized as a social influence on the group (see Festinger’s theory of Social Comparison: Brown R, 2000: pg 125).  Colin Powell had a good rapport with President H.W Bush, serving as Chairman joint chief of staff in that administration. Henceforth loyalty and absolute support for President G.W Bush’s administration would be inevitable. This belief in being loyal to the Bush family, and furthermore President G.W Bush’s administration, served as a motivational factor to reduce any inner conflict experience by the dissonance phenomenon (see theory of cognitive dissonance: Pious chapters 1-4, pg 23). The belief in loyalty also created a tendency to make biased decisions on foreign policies in favour of President G.Bush’s administration.

Bad decision: President Saddam had always been an enemy to the Bush family, and furthermore the American populace. He has been tagged as a human right violator and a cruel military dictator, imposing tyranny on his subjects. The “operation desert storm” was a military action created to expel Iraq troops invading Kuwait. Collin Powell was the military strategist for that operation, prompting a prejudiced judgment of President Saddam (see Self Fulfilling prophecies and halo effect). This led him to make the biased assumption that President Saddam possessed weapons of mass destruction. Presumptuous expectations of what he perceived about President Saddam (see theory of selective perception: Pious, chapter 1-4, pg 16) were coupled with the confirmation from a past result (see confirmation bias: Russo.J.E and Schoemaker .P.J.H:1992;pg11). This prompted military action on Iraq. This act has led to further tension in the Middle East. Only after the action did findings prove Iraq had no weapons of mass destruction.

Energy Business

Leader: Jeff Skilling

Traits and belief: Jeff Skilling was employed as the Chief Executive Officer of Enron in the year 1991 by Ken Lay, Chairman of the company. Prior to this, Jeff Skilling had been known to be overconfident. During his admission interview into Harvard Business School he claimed to be “f**king smart” when approached with the question of being smart. Jeff Skilling’s charismatic leadership style, that entailed strong vision for the company, coupled with his Darwinian belief that embodies on how human nature is stirred by greed and competition to survive, created a strong influence in directing the affairs in Enron.

Bad decision: This overconfidence in his ability prompted the intellectual stimulation of employees to share in his belief. The “mark to market” concept was the product of this belief. The performance review committee was set up by him to ensure employees conformity to the norms of the company (see Group Think theory: Hewstone.M and Stroebe.W, 2003, pg 75). This committee comprised of a “rank and yank” system which endeavoured to punish any deviation from group norms and objectives. Furthermore, Jeff Skilling’s belief in motivational factors to be the means of survival for humans served to reduce any inner conflict experienced by employees. Remuneration of high bonuses and compensation was the solution to reduce the dissonance phenomenon experienced by employees (theory of cognitive dissonance: Pious Chapter 1-4, pg 23: Leon Festinger, 1957). This created an environment for practice of corporate fraud by defying the rules of corporate governance, leading to the demise of Enron.
NUTSHELL:
This is the first of a series of 3 articles on Overconfidence. According to Donald, Bad decision making has led to disasters such as the oil spillage in the Gulf of Mexico, liquidation of Enron and the ever rising tension in the Middle East. These disasters evolve from loopholes in the strategy of our decision makers. Donald claims that overconfidence has been linked to the root cause of many faulty strategies, placing it at the heart of many bad decisions. Is overconfidence always at the heart of bad decision making? Donald's analysis takes a critical look at this by focusing on causes and contributory factors- as well as three case scenarios which show bad decisions made as a result of over confidence. In the next instalments Mr. Ukpayang's analysis will touch on the principle of decision making in a bid to give us an alternate view to the question and then an examination of leadership theories and scenarios. For more information on this article and to view the author's professional profile click here -->