Summary: An information (or informational) cascade occurs when people observe the actions of others and then make the same choice that the others have made, independently of their own private information signals. Because it is usually sensible to do what other people are doing, the phenomenon is assumed to be the result of rational choice. Nevertheless, information cascades can sometimes lead to arbitrary or even erroneous decisions. The concept of information cascades is based on observational learning theory and was formally introduced in a 1992 article by Sushil Bikhchandani, David Hirshleifer, and Ivo Welch. A less technical article was released by the authors in 1998.

There are two key conditions in an information cascade model:

1. Sequential decisions with subsequent actors observing decisions (not information) of previous actors.

2. A limited action space (e.g. an adopt/reject decision).

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When we come to look into the matter, so-called universal opinion is the opinion of two or three persons; and we should be persuaded of this if we could see the way in which it really arises.

We should find that it is two or three persons who, in the first instance, accepted it, or advanced and maintained it; and of whom people were so good as to believe that they had thoroughly tested it. Then a few other persons, persuaded beforehand that the first were men of the requisite capacity, also accepted the opinion. These, again, were trusted by many others, whose laziness suggested to them that it was better to believe at once, than to go through the troublesome task of testing the matter for themselves. Thus the number of these lazy and credulous adherents grew from day to day; for the opinion had no sooner obtained a fair measure of support than its further supporters attributed this to the fact that the opinion could only have obtained it by the cogency of its arguments. The remainder were then compelled to grant what was universally granted, so as not to pass for unruly persons who resisted opinions which every one accepted, or pert fellows who thought themselves cleverer than any one else.

When opinion reaches this stage, adhesion becomes a duty; and henceforward the few who are capable of forming a judgment hold their peace. Those who venture to speak are such as are entirely incapable of forming any opinions or any judgment of their own, being merely the echo of others’ opinions; and, nevertheless, they defend them with all the greater zeal and intolerance. For what they hate in people who think differently is not so much the different opinions which they profess, as the presumption of wanting to form their own judgment; a presumption of which they themselves are never guilty, as they are very well aware. In short, there are very few who can think, but every man wants to have an opinion; and what remains but to take it ready-made from others, instead of forming opinions for himself?

Since this is what happens, where is the value of the opinion even of a hundred millions? It is no more established than an historical fact reported by a hundred chroniclers who can be proved to have plagiarized it from one another; the opinion in the end being traceable to a single individual.

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It all comes down to the fact that many choices are primarily binary. Endorsing a diet or not endorsing it. Buying a gizmo or not buying it. Going to the restaurant here or not. Running from the lion or not. Chasing the blond girl at the bar or not.

See, prior to our work, researchers thought that the following corrective force would be at work: If I see one agency adopt the 100% low-fat diet, and I think it is a bad idea, I should endorse it only halfway–say, I would suggest a 60% low-fat diet. The next person could figure out from my half-hearted adoption that I wasn’t so favorable, either. If he has negative private views, his choice would become even less favorable (say, 10% low-fat diet). Pretty rapidly, the truth will win out as more and more people act and their actions tel everyone how strongly they believe the diet. They communicate their private views through their action.

What cascades have done is to show that as long as the main choice is binary, this logic won’t hold. There is no strong corrective force any longer. I don’t really have the choice of going 50% low-fat diet. I have the choice of endorsing it or not endorsing it. No one cares about the details of how I am endorsing it. They can only easily observe whether I am for it or against it. If I follow, then those coming after me can no longer learn anything (easily at least) from what I have been choosing as my recommendation.

Now, all sorts of weird things can happen. Everyone can choose the wrong action for a long time, and then suddenly a little real information from some outside place can make everyone turn on a dime. (Of course, a little real information could potentially also make everyone switch from the right to the wrong action.) This is all proven, and the proof is quite simple, too. It is the surprisingly mild assumptions that are needed, and the ubiquitous situations in which it can apply, that make informational cascades.

Also, you now have a very interesting role for “entrepreneurs”—those people who are confident and go their own way, ignoring the crowd. What they do may not be in their own interest, but it conveys a lot of news to people. They can help overturn bad cascades, and are thus extremely socially valuable.

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