The Magical Economy of Gambling

A classic saying suggests that "he who does not risk, does not win." But how true is it in practice? Why do we go to the roulette wheel knowing that its odds are eternally against us? What drives us to buy lottery tickets when the chances of winning are insignificant? The relationship between psychology and gambling is so broad that it extends beyond gaming halls, and many developments depend on it, but the most curious thing is us. We avoid loss whenever possible, but we accept risk convinced that the decision is worthwhile. Why?

The casino is designed to make you lose money. There is no doubt about it. If we limit ourselves to rational decisions, casinos shouldn't even exist. Take the roulette, for example. If you bet on a color, the first thing that comes to mind is a 50 percent chance, right? No, that's false. Remember that the 0 and the 00 play against you (unless you place chips on them) and the house edge is 5.26 percent (or 2.7 percent on European roulette wheels without 00). However, people bet. And they bet a lot. Between casinos and other gambling establishments, global annual revenue exceeds 500 billion dollars. Entire governments finance themselves through gambling. But the average citizen is not the only one who bets.

The Insurance Gamble

Insurance companies do something similar, only the "casino" is us. If you pay an annual premium, the company "bets" that your damages will never exceed that amount... with a margin of advantage. In general calculations, for every 100 dollars in insurance you could recover almost 98, much better than roulette, although you still lose money. The reasoning behind insurance is more complex because the loss is "acceptable" in cases of major losses (house, car, your life), but the key boils down to this: The negative impact of losing money for a person is greater than the positive impact of gaining it. In other words, an insurance is "lose, in order to avoid losing more." Loss aversion in its essence.

Of course, everything changes when you modify the probabilities. An exercise: Receive 5 dollars 100 percent of the time, or receive 6.25 dollars 80 percent of the time. With infinite rolls, the choice is irrelevant because 80 percent of 6.25 is also 5 (the money is the same), but in one roll, most people (77 percent) went for the safe option. Now, when we compare 5 dollars at 100 percent against 1,000 dollars at 0.5 percent probability, most chose the risk. Why?

Because our loss aversion is strong, but at the same time we like low-probability risk, that is, trying to win big even though the positive outcome is very remote. That indicates an overestimation of the real chances, but the "threshold" depends on each person, and some institutions have begun to take advantage of it. Another example: You have 2,000 dollars deposited, and the bank enables a 1% annual interest rate. That gives you barely 20 dollars that don't change your life at all. Now, what happens if the bank offers as an alternative a 0.4% chance of winning 5,000 dollars? This is already in practice today, and most prefer to run the risk.