Posts Tagged ‘systems thinking’

Thinking tool: going beyond causes & effects with systems thinking

Wednesday, March 3rd, 2010

Recently, we were reading a property investment newsletter. As expected, it listed reasons why despite house price inflation over the decades, housing is still ‘affordable.’ One of the reasons is this: Decades ago, families lived on single income. Today, families are living on double income, which means their purchasing power had increased over the decades. Hence, with increased purchasing power, house price increases. Basically, the increase in the number of dual-income households is (one of) the cause and house price inflation is the effect.

At first glance, this cause and effect seems logical isn’t it? Is this argument the truth? We don’t know, but we know that if one buy into that argument, then that’s another justification for house price inflation, which depending in one’s bias, is good enough.

What if we reverse the cause and effects? That is, house price inflation is the cause and the increase in the number of dual-income households is the effect? Another way of saying that is that as houses become more and more unaffordable, more and more families are forced to depend on dual income to service the mortgage debt. Certainly, this is the situation of young families nowadays.

Now, the point of this article is not to argue which is the cause and which is the effect. Both of them are unprovable interpretations. Since they are unprovable, each of them panders to our beliefs and bias. The main point of this article is this: always be alert to reverse the and cause and effects and see if the logic still holds. If so, you may be on to something more subtle and complex.

In this example, the property investment newsletter’s interpretation is probably an oversimplified narrative. Human nature is such that everyone has an unbreakable habit of simplifying and reducing the complexities in life into easy to understand story. As we wrote before in Mental pitfall: Narrative Fallacy,

Narrative Fallacy is a natural human weakness because by default, our minds seek to form theories, jump into conclusion, seek judgements and explain what we see. It takes a conscious act will to do otherwise.

The reality could be more complex than just a simple cause and effect. It is possible that over the years, rising house price (among other factors) led to the effect of more dual income families (among other effects), which in turn led to even more rising house price, which in turn lead to more dual income families and so on and so forth. In other words, the cause leads to effect, which feed-back into causes, which in turn feed into more effects i.e. a positive feedback loop.

If you can think along this line, congratulations! You’re now utilising systems thinking. Systems thinking is a very important skill that can gives you the edge not only in investing, but also in other aspects of life. We will be covering more of systems thinking in the days to come. Meanwhile, if you are interested to learn more on your own, we recommend this introductory book: The Art of Systems Thinking. This is a fascinating subject and we can only bring it to life through practical examples in the field of investing and economics.

Lastly, our friend, Professor Steve Keen utilises systems thinking in his modelling, which is something that neo-classical economists are lacking.