How Unfair Transactions Affect You

When people interact for rewards, the result isn't just about the reward. It is also about the participants emotion related to the transaction.

A few months back I wrote about Jim, a service provider who observed that his stockbroker appeared to be separating him from his money.

He noticed that cash seemed to be disappearing from his account. This was because of loads (up-front charges) and continuing 12b-1 fees (advertisement expenses charged to Jim that only benefit his brokerage firm) plus high management costs. All are legal.

This had been happening to Jim for several years, he finally was ready to delve into the reasons, though he had been meaning to do it for some time. Deep undercurrents were apparently at work in Jim’s head that only recently bubbled to the surface. There are some neuroscientific reasons why Jim finally took action.

Current neuropsychological studies demonstrate that unfair offers lead to rejection. For example, in the ultimatum game, if one player is given $10 and knows he can share it with a second player any way he wants, but can keep money only if the second player accepts his offer, certain outcomes are predictable. If the first player offers the second less than 25% of his money, the second player will reject his offer 50% of the time. Then, neither player gets anything. They both lose. On the other hand, if player one offers the second player 30% or more of his cash, most of the time the second player will accept and they both win (gain more than they had to start with).

This sense of fair play is even reflected in the animal kingdom. When two monkeys are in cages side by side and each is given a cucumber slice in return for a pebble they have offered to the researcher, then all is well. But, if one monkey is given a grape in place of the cucumber for the same pebble, the other monkey becomes agitated and no longer wants to play. He evidently perceives a grape as a better reward and sees the game as no longer fair.

This rebuff of one player toward the other (in the case of humans, one to another, and in the case of the monkeys, animal to human) is thought to be a form of punishment for an unfair action. According to the work of Fehr and Fischbacher, this rejection can promote more reasonable and accommodating behavior in the future. Therefore, these actions can be explained through evolutionary forces.

There is also recent research that suggests that unfair offers can engender anger against the offender. The monkey who shakes his cage after the other is given a grape certainly suggests this kind of negative emotion.

Even disgust for the wrongdoer can be elicited. This sentiment is an avoidance reaction originally developed to protect an individual from a harmful contaminant such as worm infested food. In our modern society, it is also associated with morality related to social misbehaviors such as lying or misrepresentation. This moral disgust leads to avoidance of social interaction with individuals that are not in line with the norm in the opinion of the person in judgment.

Whether any or some or all of these emotional churnings happened to Jim is a matter of debate. He was losing less than 25% of his account to his broker and her firm per year (though it would accumulate up to 33% over time), still, he was feeling unfairness and wanted to act on it. If he can do better, he will.

As mother used to say (and science has now substantiated): “No one wants to be on the short end of the stick.”

Read more:

Do Investors Act in Their Own Best Interest?

Make More Money as a Self-Investor

Advisor? What Advisor?