Let them take it on the chin

It Pays to be Irrational

We follow the irrational because it is the irrational who take action.

Irrational people who believe that their attributes are more favourable than they truly are, that their goals are more achievable than they truly are and who exaggerate their own ability to forecast the future.

Because the beliefs of the irrational are the beliefs of the optimist.

The optimist is the one who seeks challenges and takes risks, who is quicker to move past hardships and failures, and whose self-confidence enhances their ability to onboard support, raise capital and lift the morale of their employees.

Optimists don’t need to be told that they are lucky - they know they are.

Their cheerful disposition attracts a larger social network. Social beings tend to live longer, have stronger immune systems and have a reduced chance of clinical depression.

Strong social networks attract the admiration of their peers, reinforcing their self-confidence.

Life is easier for optimists.

But optimists make big mistakes, including, the planning fallacy. The planning fallacy is a condition when a forecast is unrealistically close to a best-case scenario.?

Let me give you two examples:

• The average home renovation in the United States begins with an estimated budget of $18,658, but the average cost ends up being $38,769.

• A study examining worldwide rail projects constructed between 1969 and 1998 found that railway operators overestimated their customer base by an average of 106%. Although most of these overestimates were documented and covered by journalists, over the 30-year period, the forecast estimates never improved.?

Railway operators could have consulted the statistics of similar cases, but even though this data was widely available, people assumed that their situation was different.?

And honestly, thank goodness.

Because if you believe that your kitchen renovation would double in cost, you might not do it. And this may seem of little consequence.

But if every entrepreneur knew there was a 65% chance their business would go bankrupt within five years—which is, in fact, the statistical reality—many might never take the plunge.

If they understood that not only would their business likely go bankrupt, but that their personal losses would more than double their perceived worst-case scenario, how many people would jump into that arena?

During the lifecycle of a failed startup, the odds of failure on the first day are 65%. The odds of failure on the last day, are 100%.

In between the first and last day, with every lost battle and as the situation worsens, the odds of failure increase incrementally.

However, surveys of both American and Canadian entrepreneurs show that personal investment of the entrepreneur increases as their prospects decrease, with 47% of entrepreneurs doubling their personal losses after banks, investors, and shareholders advise them that the game is over.?

But we shouldn’t laugh at this foolhardy approach; in fact, we must give thanks for it.

For the 65% of entrepreneurs that take it on the chin, 35% bring the world something new. A free market that punishes bad ideas and rewards good ones is the most effective way for a society to grow and for a nation to build its competitiveness.

When bad ideas are punished, the surrounding community strengthens, learning from the mistakes. When bad ideas are forgiven, they become cancerous, continuing to suck productive capital and resources from places it would better serve.?

I will wrap this week’s essay with a story of what happens when irrational optimism meets lenient bureaucracy.?

In 1997, a new Scottish Parliament building was proposed. After design and architecture drawings, the building was forecast to cost $40 million.

Two years later, the budget needed an increase of $70 million, on top of the original $40 million proposed, bringing the total cost to $109 million.?

One year later, the budget was increased by another $86 million, with legislators demanding a hard cap on the new $195 million budget.

By 2001, the same legislators demanded a “final cost estimate” and received $241 million as the number.

The “final cost estimate” rose five times in two consecutive years, reaching $376 million by the end of 2003.?

The building was finally completed in 2004 at an ultimate cost of $431 million.

The story is actually ongoing, with many architects forecasting the massively “over-engineered” building will have a lifespan of just 40 years before significant retrofits will be needed - by contrast, the Scottish Parliament Hall was built in 1639 and is still in use.

This is the planning fallacy gone wild. Or politicians gone wild. Probably both.