So you’re craving a chicken sandwich from the local restaurant. You told your mother that you were going to purchase it for $19.99. She freaked out and said she could make you the same sandwich with a list of ingredients costing $10. You may believe that your mother is cheap and tries to preserve every penny, but the truth is that she followed the same method that helped Elon Musk grow SpaceX into a highly successful firm.
(Yes I’ll discuss this later in the same blog post).
Definition
Mental models are the thought processes you use when you analyze issues, whether they are related to a relationship, job, business decision, starting a space-rocket firm, or even as simple as attempting to decide between a restaurant or home-made chicken sandwich.
They help us make decisions without falling to our cognitive biases, past experience, and individual differences. And in this world we are living in, decision-making is everything.
If you can be more right and more rational, you’re going to get nonlinear returns in your life (…). Decision-making is everything.
- Naval Ravikant
Importance of mental models
Inspired by the advertisement of Warner & Swasey (construction equipments company) “The company that needs a new machine tool, and hasn’t bought it, is already paying for it”, Charlie Munger, one of the most successful investors and finest thinkers of the 20th century, once said:
The man who is in need of a new thinking tool, but hasn’t yet acquired it, is already paying for it.
We cannot keep all of the details of the world in our brains, so we use models to simplify the complex into understandable and organizable chunks.
When looking at a home, for example, your mother will look for a good spot to do her morning stretches, your brother (who happens to be a real estate agent) will focus on the value of the house, and your father only cares about the distance between the house and his workplace. None are wrong, but neither can they describe the full scope of the house.
Sharing knowledge, or learning the basics of the other disciplines, would lead to a more well-rounded understanding that would allow for a better decision about buying the house. And that’s exactly what mental models are made for.
Examples of mental models
There are more than 100+ mental models (which you don’t have to memorize all). In this article, I’ll talk about 3 of which I (opinion based) believe to be the simplest and easiest models to understand for beginners.
Inversion
Oftentimes in life, it’s very hard to come up with ideas of how to do ‘X’.
But what’s much simpler to understand is how to avoid ‘non-X’.
If I asked you how to maintain a healthy relationship with your partner you’d consider it a hard question. But If I asked you how to destroy a relationship you’d immediately name 10 things that can ruin it completely.
Just put these thoughts in mind and avoid them.
For example; cheating will surely destroy my relationship! Solution: Don’t cheat!
It is remarkable how much long-term advantage people like us [Charlie Munger and Warren Buffet] have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.
-Charlie Munger
This approach is so effective because oftentimes there is more to lose on the downside than there is to gain on the upside, and by using this model you will focus more on the downsides of any decision.
Opportunity Costs
Whenever you choose to do anything with your time or your money, you are foregoing many other opportunities that this time or money could have been used for.
Spending 2 hours watching a movie costs you 2 hours plus the loss of 2 hours of reading. Investing 1000$ in stock X costs you 1000$ plus the earnings of stock Y if you have invested the same amount in stock Y.
Thinking about everything in this way will force you to choose wisely between any available options since, from now on, you will be aware of the actual costs associated with every choice you make.
First Principles Thinking
First principles thinking as described in this amazing article on Farnam Street is:
First-principles thinking is one of the best ways to reverse-engineer complicated problems and unleash creative possibility. Sometimes called “reasoning from first principles,” the idea is to break down complicated problems into basic elements and then reassemble them from the ground up. It’s one of the best ways to learn to think for yourself, unlock your creative potential, and move from linear to non-linear results.
Your mother suggested making you that chicken sandwich using this mental model.
She disassembled a sandwich, calculated the costs of each component, put it back together, compared the costs (while also accounting for the opportunity costs of her time), and discovered that her sandwich would be less expensive.
She reminds me of SpaceX, a business that employs a management style that prioritizes cost-cutting as one of its guiding principles. The cost of battery packs is one of the most significant expenses they avoided.
Elon Musk described his method for reducing those costs in an interview with Kevin Rose:
“Historically, it costs $600 per kilowatt-hour. And so it’s not going to be much better than that in the future. … So the first principles would be, … what are the material constituents of the batteries? What is the spot market value of the material constituents? … It’s got cobalt, nickel, aluminum, carbon, and some polymers for separation, and a steel can. So break that down on a material basis; if we bought that on a London Metal Exchange, what would each of these things cost? Oh, jeez, it’s … $80 per kilowatt-hour. So, clearly, you just need to think of clever ways to take those materials and combine them into the shape of a battery cell, and you can have batteries that are much, much cheaper than anyone realizes.”
You will always have the advantage of unbiased thinking if you comprehend mental models and use them in your daily life.
For the most part, I wrote this blog post using these two sources. More information on mental models can be found here:
1) The Swedish Investor Channel —Charlie Munger’s Mental Models Series
2) Farnam Street Blog
