Panic on the stockroom floor and giddy excitement watching the lottery. Emotions are intimately tied up with moneymaking decisions. But why does money have such a magical influence on how our brain makes decisions? And when it comes to money, are our brains hard wired to judge how risky something is?

This is your brain on money

We make decisions all the time. You probably decided what you were going to have for breakfast this morning without much difficulty. On the surface it doesn’t seem like a big deal. But how did your brain consider all the options, and decide what the right answer was? And is this the same way that we decide what to do when cash is involved?

Appropriately enough, the classic approach to understanding how the brain makes decisions comes to us from the field of economics. Options are weighed, outcomes are predicted, and the statistical likelihood of a desirable result is calculated. It’s nice, it’s neat and choosing the most economically desirable outcome is always the right decision. It’s a great description of how you choose between cornflakes or toast.

But this doesn’t accurately describe the human brain when money is involved.

The inside of our skull is a messy chaotic place, full of irrelevant information, inaccurate memories, distractions and emotions. And it’s emotions in particular that play a huge part in judging risk and risky financial decisions in particular.

A simple, but elegant example reveals how our emotions are intimately tied into how we perceive money. And it’s in a way that is divorced from cold hard economics. When a group of people were asked to gamble a sum of money, the emotional response to the wager depended on the perceived value of the outcome AND the likelihood of the desired outcome vs. the alternative.

In plain English this means it feels better to gamble and win $0 when the alternative was only $10. Compared to feeling much worse winning $0 when there is was the possibility of $100. In the same vein; winning $50 feels better when the odds of success were only 10% rather than 90%.

The emotions felt after gambling are profoundly influenced by this “what might have been syndrome”. Oddly enough this even happens before we make that financial decision – you expect to feel worse if you think you’ll win $0 instead of $90.

So decisions about money are all tied up with thoughts about risks and rewards. But we don’t all make the same bets or have the same sickening sense of loss when money goes begging. Are our brains wired differently?

Risky business

From a superficial perspective, persistent risk-taking behavior is seen as an abnormal, almost a pathological condition. A self-destructive spiral into loss of control and loss of reason, paralleling drug-seeking behavior.
But we all take risks with our money: from simple decisions like which gas station to buy fuel at, to more complex situations like what investments to make for our retirement. Clearly, the nature of risky decision-making isn’t as black and white as being a drug addict. How do we explain why some of us take risks with our money on the stock market or by starting a new business? A recent commentary in the journal Nature may give us a clue.

Entrepreneurs vs. managers

Dispensing with the simple “gains and losses” view of calculating a decision the researchers took a closer look at real world examples of how entrepreneurs (risk takers) and managers (risk avoiders) behaved when faced with two types of decisions.

Cold processes. These are decisions and problem solving tasks that are emotionally neural and require cold hard logic to solve. In this case the test involved moving a number of colored balls to match a pattern in the least number of moves possible.
Deciding what to do here primarily involves the dorsolateral prefrontal cortex region of the brain – No consideration of reward vs. punishment here, just cold and boring choices.

Hot processes. These decisions are heavily concerned with evaluating reward and punishment, and the emotional consequences of either outcome. The test again is a gambling task. But in this case, the odds of winning were made known, so using the cold processes above, you should always be able to calculate the best possible bet to make.

Unlike the cold processes the medial and orbital regions of the prefrontal cortex are very active in these tasks and they connect with the amygdala – a region that has strong controls over our emotional state.

The results were enlightening. The entrepreneurs and managers scored similarly on the cold hard logic test, so reasoning and logic wasn’t different between the two. On the hot process test, both groups also gambled in a similar way, and both adjusted their betting strategy in a logical way when the odds were changed.

However there was one telling difference: the entrepreneurs displayed much riskier behavior by consistently betting larger amounts when gambling.
The gambling task also revealed another facet of how our brain handle risk. Normally, gambling behavior on the test correlates with age – the older you become the less financial risks you take. But the entrepreneurial group with a mean age of 51 had scores similar to teenagers and young adults (17-27) while the mangers were normal for their age.

Overall the behavior of the entrepreneurs was skewed towards greater risk seeking or higher risk-tolerance. In essence: Larger rewards are available for those who bet more, with the downside that there is also the possibility of greater losses.

So why aren’t these impulsive risk-taking behaviors destructive like a drug addicts?

By and large entrepreneurs are very creative and the results of successful risk-seeking behavior are largely positive. Increased personal wealth and increased wealth for society as a whole. Combine this particular flavor of risk-taking, risk-tolerance and cognitive flexibility and you have a winning combination.

But can you learn to become a financial risk-taker?

You can learn the basics of business for free, and there is also no shortage of “entrepreneurs” willing to teach you the “secrets” of success if you’ll just buy their ebook. But largely these boil down to the traditional fundamentals of business and entrepreneurship: risk minimization and risk aversion tactics through extensive planning and market research.

This is obviously a key part of the curriculum, but having peeked into the minds of entrepreneurs perhaps teaching risk tolerance should augment this – both at a personal level and through the lens of financial decisions. But teaching and learning might not work for everyone. Are we fundamentally limited by our individual biochemistry? Can anyone become risk-tolerant?

All of these decision-making processes I’ve discussed are intricately intertwined with the biochemistry of the brain and to big name neurotransmitters you’ve probably heard of like dopamine. Knowing the brain regions involved, and how they become active when making different choices means we have a rough sketch of the entrepreneurial brain. Using this neurochemical map it should then be possible to ask: Can we drug our way to entrepreneurship?

It is indeed possible to change the risky-decision making results of all the tests I’ve mentioned with psycostimulatnts like Ritalin. But these neurochemical tools are still crude, and the map is still only a sketch. To make any meaningful changes a more nuanced manipulation of the systems involved is required than technology will permit. But there is another way to achieve the same results right now: Exposure to other entrepreneurs.

Clusters of startups like silicon valley and research triangle aren’t accidents. Perceptions of risk can decrease when everyone around you is more risk-tolerant. Combine this with exposure to very creative people with high cognitive flexibility, and you have a culture that fosters positive risky financial behavior.

Risk in and of itself is not a negative thing. There is considerable financial risk in starting any venture and if we all avoided it there would be no innovation. The question you should ask yourself is: Does your brain think about money like a manager or an entrepreneur?

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Original image by Andreas_MB remixed by Patrick

February 12th, 2009