Optimism bias, strategic misinterpretation and reference class forecasting

Multi-National corporations completing large-scale projects face potential high overruns and possible overestimations on initial budgets. Through these, sometimes unrealized setbacks, the corporations are not operating at maximum possible efficiency. This can happen through a number of factors such as a poor allocation of resources, lacking a sufficient standard of managerial skills, Optimism Bias and Strategic Misinterpretation.

A Danish geographer by name of Bent Flyvbjerg did extensive research into cost overrun and benefit shortfall of major projects, with additional studies into hypothetical solutions. Through his investigation, Flyvbjerg realised that the cost and benefit shortfall of major projects could be better understood by filtering the wide topic into two sub-topics, Optimism Bias and Strategic Misrepresentation. Through further analysis into the study area, a possible solution to this problem was first found through the use of the Reference Class Forecasting approach (RCF). RCF approach helps by providing a less skewed and opinionated view on a specific subject by using the 'Outside View' instead of the commonly applied 'Inside View'. The over-arching goal is to reduce cost overrun and benefit shortfall by engaging all aspects to increase forecasting accuracy.

Through reading this article, a clear and succinct explanation of the strategies and ideas discussed above will be discussed. A brief analysis will be given on how it is used in business practice to increase efficiency and a detailed paragraph of the studies' limitations as a theory will also be covered.

Optimism Bias

• ---Definition
• ---Statistically impossible for everyone to be better than everyone else
• ---low expectations/High expectations
• ---John Brown??
• ---Anticipation makes us happy/enhanced well-being
• ---Leads to success

• ---How do we maintain optimism in the face of reality?
• -----Theory
• -----Expectation

(left/right infer front girus)

• ---0% divorce

LONDON OLYMPICS

Treated as a safety blanket!

Reference Class Forecasting

• ---The method of looking into the future by looking at similar situations and their past outcomes in the past
• ---Predicts the outcomes of a planned action based on actual outcomes in a reference class
• --- Daniel Kahneman, Amos Tversky Nobel?

• --- Human judgement generally optimistic due to over-confidence and insufficient consideration of distributional information about outcomes

                          *---people underestimate
                               *---cost, risks of planned actions, completion times
                          *---people overestimate
                               *--- benefits of same actions

• ---Outside View
• Identify a reference class of past similar projects
• Establish a probability distribution for the selected reference class for the parameter that is being forecasted
• Compare the specific class distribution in order to establish the most likely outcome for the specific project.

• Cognitive Bias
• Availability Biases

Confirmation Bias AGree/Disagree

Business Practise

first refenece of RCf Berg?2006 (2004 uk gov edinburgh trams netherlands, Denmark, Switzerland all implented RCF

Alternatives

Socratic Method why?, 5 year old child State, question, redefine

References

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