We all find ourselves in situations sometimes where there’s a high degree of uncertainty in our decisions. It often comes when starting something new or entering a new domain.
Two exercises that reduce this uncertainty are understanding the forces at play and determining base rates. Understanding forces at play is about becoming familiar with the system in which you are operating, so that you may use it to your advantage. Determining a base rate is about looking at history to examine what success (and failure) has looked like in the past, so as to establish a benchmark for your own actions.
The term ‘forces at play’ comes from Charlie Munger’s two step decision making process.
A simple and easy approach to decision making that prevents us from being manipulated:
- Understand the forces at play.
- Understand how your subconscious might be leading you astray.
On that first step:
The key to the first step is knowing what you know and what you don’t know. You need to understand your circle of competence. It’s just as important to know what you don’t know as it is to know what you know.
If you know what you don’t know, you might still have to make a decision, but your approaches for making that decision will change. For example, if you’re forced to make a decision in an area that you know is well outside your circle of competence, one tool you can use is inversion.
Forcing ourselves to understand the world around us, especially the ‘unknowns’, will help us harness those forces towards whatever objective we are trying to reach. That second step - to understand our own biases - is another important step especially before making any decision.
The term ‘base rates’ comes from statistics. It represents the percentage of a population that exhibit a certain characteristic. It’s most basic use is determining the probability that a member of that population will also have that characteristic. For example, if 40% of immigrants in Canada are from India, then if you choose one immigrant in Canada, they have a 40% chance of being from India.
One of the great lessons from studying history is to do with “base rates”. “Base rate” is a technical term of describing odds in terms of prior probabilities. The base rate of having a drunken-driving accident is higher than those of having accidents in a sober state.
Understanding the base rates in a new environment helps to determine whether a certain decision you’re considering has worked before or not, or atleast give you a sense of whether it will work.
Both these techniques paired together can provide a broader context to how a new unfamiliar system works. One gives a general view of how the system behaves, and another gives insight into how a decision might fare in this system. They are useful on their own, but very powerful when paired together.