The Next Big Evolution in Finance Will Rely on Psychology, Not Technology (Part 2)
Current circumstances due to the COVID-19 epidemic means that psychology-informed financial services must be brought to bear even more rigorously than we could have anticipated. If banks want to thrive, they need to create long-term strategies for improving the financial well-being of consumers – which means untangling the mechanisms that support unhealthy financial behavior and helping people establish better habits.
Breaking Bad Habits
“All our life, so far as it has definite form, is but a mass of habits.” – William James (1892)
In many ways, our habits define us. Habits actually alter our cognitive wiring and whether they’re healthy or harmful, it takes significant effort to break a habit and supersede those neural networks. Our habits begin as conscious, purposeful actions and over time they become automated; we stop thinking about them but we continue doing them.
The right habits can be crucial to success. Knowing this, we should be testing habit-forming behaviors and techniques for replacing the cognitive wiring that contributes to unhealthy tendencies. Unfortunately, the availability of modern-day quick fixes encourages consumers to develop detrimental habits and lose focus on financial goals.
So how do we combat the tide of bad influences as well as the stubborn human mind? We can begin by integrating the principles of behavioral science into reward structures that will help encourage better habits and improve the financial “muscle memory” of customers.
Financial Health Hacking
When we’re considering how to advance the cause of financial health, we might want to think of it not from the perspective of a coach, teacher, or even a product designer; but perhaps that of a hacker. Today, we have the knowledge and tools necessary to hack financial health – to shortcut the shortcut mindset, if you will. Banks that want to position themselves as the service providers of choice both through and beyond the Coronavirus crisis must start now.
We need personal financial management tools informed by psychology and designed to acknowledge unconscious motivations. What is the reward for good behavior? What mechanisms are in place to deter unhealthy choices? The challenge is achieving the right balance. Sometimes you’ll need to apply the tough love that certain customers need to improve their financial well-being. In order to discourage bad decisions, it may be necessary to impose a level of friction for certain transactions and that in itself may seem counterintuitive.
Building good behaviors takes time and effort. Pay attention to your messaging and the experiences you’re creating. Wording and phrasing matters when you want to send customers reminders with sufficient timeliness, but you also need to avoid creating an environment that causes people stress. Remember we humans don’t make decisions in isolation; our actions are shaped by our preferences and affected by our social environment. People will respond differently depending on the environment, and feedback is a key factor for inducing behavioral change. Positive, personalized feedback, along with good information and experience, helps enable people to make better decisions.
There is power in social pressure because most of us don’t like to view ourselves as outliers amongst our peers. A 2017 case study by the Common Cents Lab found that people who receive social proof feedback are more likely to decrease their discretionary spending on eating out at restaurants, which was rated as the easiest expenditure to reduce. Approximately 58% of the people who received social feedback spent less money on dining out (22% higher than the control group). The study states, “However, this only holds if they both committed to spending less the next month and specified an amount.”
This brings us back to the core issue – financial health demands a level of discipline that many people cannot sustain by themselves. Digitization will not actually improve consumers’ lives (or your bank’s portfolio) unless the technology incorporates the principles that behavioral science is teaching us.
Today we can experiment and test nearly everything, so don’t get stuck in the old world where there was a set of assumed costs. It was once very expensive to conduct experiments and test scenarios for human behavior and responses because there was a ‘human on both sides,’ but the costs have dramatically lowered thanks to digitization and advances in machine learning technology and AI. Once your organization has the ability to accelerate learning and observe long-term patterns, you can create temporal maps and engagement strategies that help improve your customers’ financial health – as well as your bottom line.
The future of the financial services industry will depend on how well we can incorporate behavioral science concepts with money management tools and macro-financial modeling. Financial institutions need to help customers harness the cognitive exertion it takes to break bad habits and educate people so they can learn to make healthier choices. This means striking the right balance between reward and admonishment, and nudging consumers into making better decisions by leveraging these unique (and often counterintuitive) insights into the complexity of human behavior.
David Lightfoot is vice president of product management and heads up FICO’s customer lifecycle management area, which includes solutions for originations, customer management, and collections and recovery.