27
Oct

Of Entrepreneurs and Chickens

Written on October 27, 2011 by Vani Nadarajah in News

Think Beyond Business!

IE Brown Professor of Psychology, Joachim Krueger, explores the mysterious world of entrepreneur behaviour….

Why enter the market when you can chicken out?

I teach a course on “Psychology for Managers” in an executive masters program. It’s beginning to dawn on me that the title is no good. It should be “Psychology for Executives” or better yet, “Psychology for Entrepreneurs.” For what do managers do? They manage. How are you doin’? Oh, I manage. Not very exciting. Entrepreneurs, on the other hand, prend entre. They undertake and take under, though not in the funereal sense. Or, according to some voices in the “Occupy Wall Street” movement, they do this too.

entrepreneur

There is also a psychology OF managers and entrepreneurs, and Busenitz & Barney [BB] (1997) published a now classic paper on how they differ. BB presented evidence that entrepreneurs are less rational than managers. They are more overconfident and they rush to conclusions more cheerfully. In some way, one may take this as a reflection of their minds. Entrepreneurs rely more on intuition and less on careful analysis of evidence. In another way, one must recognize that entrepreneurs and managers operate in very different decision environments. Entrepreneurs face greater risk and uncertainty, and perhaps even seek it out. Managers can support many of their decisions with protocols, traditions, rules & regulations.

Moore, Oesch & Zietsma (MOZ) (2007) published an excellent paper in the BB tradition. They showed that entrepreneurs are particularly egocentric—or “myopic” as they call it—in their judgments and decisions. MOZ show that entrepreneurs do too much of one-cue decision-making. They assess and evaluate their own abilities and resources relative to what is required for starting a business. When the assessment passes a threshold, they enter the market. This means that when the threshold is low, they are more likely to enter than when the threshold is high. Sound reasonable? It isn’t. What entrepreneurs tend to overlook are the abilities and resources of others who are also poised to enter the market. When the threshold for entry is low, it is low for everyone. The task, in other words, is easy. When the threshold is high, it is high for everyone. The task is difficult. If entrepreneurs had a healthy appreciation of the competition’s perspective, more of them would enter difficult markets and fewer would enter easy markets. As matters stand, easy markets (bars, restaurants, liquor stores) have the highest failure rates. In econ-speak, this does not look like an equilibrium.

Reading MOZ, I see what’s missing: Do successful entrepreneurs differ psychologically from unsuccessful ones? Can we find evidence for the idea that successful entrepreneurs rely less on one-cue intuition and think more deeply instead? If someone out there knows of good studies testing these ideas, I would be grateful to know.

Meanwhile, I want to explore the links between entrepreneurs and chickens. By chicken I am not referring to virtually flightless farm fowl, but to the game. Brief review: You and ‘Other’ are both deciding between cooperation c and defection d. You can’t talk and you must act simultaneously. The payoffs are ranked thus: dc [you defect, other cooperates] > cc > cd > dd. This is a tricky game because whatever the other person does, you want to do the opposite. But you don’t know what the other person does. So if you’re chicken, you choose c on the notion that at least you will avoid the catastrophe of dd. Or you pretend you’re playing many rounds of the game (which you’re not) and flip a mental coin (or a real one for that matter) and choose d with a probability of .5.

What does that have to do with entrepreneurs and the rest of us? Think of a group of players making up a national economy. Choosing to entrepend is (bear with me) a defection. If you are among the few who entreprend while the rest of us is chicken, you get rich, so dc is best. Conversely, if all or most of us entreprend, most or all of us will fail with catastrophic consequences, so dd is worst. Now, the remaining two payoffs are not like in the regular game of chicken, but reversed. If no one steps up to the plate, we live in a world of subsistence farming, hunting & gathering, so cc is pretty bad. If there is a class of successful entrepreneurs, we are, though poultrified, not as poorly off. We find that cd is second best. Put together, the payoff ranking is dc > cd > cc > dd.

What a would-be entrepenur now needs is an estimate of the probability that others enter the market in numbers small enough that make entry the better choice. That seems like the rational way to overcome egocentrism and decision myopia. But it wouldn’t be a game-theoretical problem if those others weren’t trying to solve the very same problem. Consider again bars and liquor stores. If everyone thought ‘This market seems too easy; therefore it will be flooded with entrants, many of whom will fail; therefore I will not bother to enter,” this market would actually become a gold mine for those who decide to abandon this rational line of thinking.

Equilibrium sought, I suppose.

What does all of this have to do with Wall Street? Not much. I think that most Wall Streeters are managers rather than entrepreneurs. Many are known as “analysts” and they play with other people’s money.

Busenitz, L. B., & Barney, J. B. (1997). Differences between entrepreneurs and managers in large organizations: Biases and heuristics in strategic decision-making. Journal of Business Venturing, 12, 9-30.

Moore, D. A., Oesch, J. M., & Zietsma, C. (2007). What competition? Myopic focus in market-entry decision. Organizational Science, 18, 440-454. doi 10.1287/orsc.1060.0243

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