Humans aren’t rational beings. We always eat cake when we know we shouldn’t, we procrastinate, and when confronted with too many options we prefer to just do nothing.
As a result, we sometimes need help to make the right decisions.
Fintechs like Monzo, Revolut, Acorns, Stash and Robinhood understand this and have developed their products in a way that takes account of our inherent biases to help us make better financial decisions.
But first, what is behavioural economics?
While traditional economics expects humans to be completely rational, behavioural economics is the mix of psychology and economics that describes the ways in which we fail at acting in our own best interests.
Prominent behavioural economist Richard Thaler recently won the Nobel Prize for his contribution to the field, and in the last eight years he has worked with governments across the globe to establish ways in which they can ‘nudge’ their populations into acting in their own best interests.
While nudges have been applied in technology for years by app developers who focus on encouraging users to spend more time and money in their apps, ethically-minded fintechs instead use these nudges for good by helping consumers make better financial decisions.*
What are these biases, and how do fintechs address them?
One of the most fundamental is known as ‘bounded rationality’ and describes how humans have cognitive limits. When making a decision, rather than looking at all the possible options and selecting the best one as the rational economist would, instead we look for a choice that is ‘good enough’ and select that.
So when faced with 350 different choices of superannuation fund, we simply look at the top 5 and pick one that looks about right, rather than spending hours looking through all of them.
Roboadvisors help consumers counter this by doing the hard work for them and showing a smaller set of 3–5 options. These companies know that the best choice for the majority of people will be determined by two factors: age and risk tolerance. By asking consumers a small number of questions they can ascertain the best choice for them, without expecting them to spend hours trying to work it out for themselves.
Fintechs also understand that limited human attention means that if given too many choices in their product, consumers will simply abandon whatever action they were trying to take — whether completing sign up or buying a stock. As a result, companies spend considerable time designing a simple and easy user experience to help users get the value they need as quickly as possible.
Robinhood’s stock trading user flow:
Another of our weaknesses is known as availability bias, and describes how we disproportionately value information and events that are more recent, that were observed personally, and were more memorable.
Understanding this, fintechs know that if we can’t easily see what we’re spending our money on, we won’t realise we’ve spent $300 on Uber in the last month and won’t change our behaviour accordingly.
Revolut’s UI splits out spending by category, merchant and country:
Monzo uses availability bias to encourage people to save money by allowing users to create ‘Pots’ which they can name with the event they’re saving towards, whether a holiday or the deposit on a house. You can even add a picture of what you’re saving for so that you can more easily visualise it.
That way, when you’re about to buy one more round at the bar, rather than taking money out of a nameless savings account, you have to go into your holiday pot with the photo of the beach above it.
These tricks shouldn’t make a difference, but they do.
This relates to another area where we consistently fail — self control.
In the past, credit card companies have taken advantage of our lack of self control by giving us low-rate 12-month offers, knowing that people will want to spend the money in the short term without enough consideration for the large interest rates they’ll have to pay long term.
More ethically-minded fintechs help us save money by reducing our need for self control. Acorns and Stash work on this basis — rounding up each transaction to the nearest dollar and transferring the extra to a savings account which invests that money. By doing this consumers save money without noticing, and don’t have to make any conscious effort.
Direct debits to roboadvisors are another way of enforced saving — if $200 gets taken out of your account every month on the day you get paid, it’s as if you never had the money in the first place. You’re much less likely to go into your roboadvice account and take the money back out, than simply forget to transfer it over in the first place.
On a larger scale, behavioural economists Richard Thaler and Shlomo Benartzi designed a program called Save More Tomorrow that employers can put in place to encourage employees to save more for retirement. Instead of asking people to take a hit now and pay more into their pension, you ask people to commit to increasing the percentage of their salary paid into their pension when they get their next raise. By doing this the employee never sees their paycheck go down, and is never required to have the self control to increase it themselves.
I’m looking forward to seeing how fintechs develop products around our other biases in the future. Some ideas of mine:
- Accountability: We are more likely to stick to a goal if other people know about it, so maybe a fintech can gamify the experience of saving so that you’re competing with a friend to see who can save the most, or who can maintain the longest streak in adding to their savings goal.
- Loss Aversion: We are more motivated to avoid loss than we are to achieve the equivalent gain. I would like to see a fintech use the Save More Tomorrow idea to allow users to set an amount of money they need per month and any income greater than that to be automatically allocated to a savings account, so it never even hits your bank balance. That way consumers would never see the loss of income, and any salary raise wouldn’t lead to an increase in spending, just in saving.
- Inertia: People tend to stick with the default when they sign up to a product, so I’d like to see more fintechs considering the best way to encourage users to act in their own best interests during onboarding — whether that’s setting up direct debits to savings accounts, or creating pots to help them work towards goals.
Do you have any ideas?
*ASIC set up a Behavioural Economics team in 2014 when studies showed that adequate product disclosure had little to no effect on helping people make better financial decisions.