Crowds are not necessarily wise. It's not that they can be depended upon to make the right
decision, just that they can be depended upon to make a
decision. Take, for example, a run on a bank -- classic crowd behavior. The bank may or may not be failing, but once there is some reason to suspect that the bank might fail, then each individual depositor has an incentive to withdraw his or her deposits from the bank. Furthermore, they all have an incentive to take out their money before anyone else does. So each tries to be the first in line at the bank, which just means that everybody
shows up at the same time. The bank, which may not have been in danger of failing before, certainly is in danger once all of the depositors demand to withdraw their money simultaneously (for an example of how this works, click here
Now, an economist will tell you that the depositors are acting rationally, and clearly that's correct (a game theorist would tell you that a bank run is nothing more than a type of "prisoner's dilemma"
). But to say that the crowd is rational
is different from saying that the crowd is right
. The consequence of the crowd's action might very well be worse, overall, than if it hadn't ruined the bank.
's example of language is a good -- and often overlooked -- example of the wisdom of crowds. There is no official mechanism for determining how people communicate, and those institutions which attempt to do so (such as the Acadamie Française) have a very poor track record. But again, just because the crowd makes a determination doesn't mean that it makes the right determination. For instance, it is rapidly becoming acceptable to spell the phrase "all right" as the single word "alright," even though the change drives language purists to despair. Once the crowd accepts "alright," though, it will become standard English, and "all right" will look as quaint as "base ball" or "aeroplane."
Indeed, we have a tendency to "ratify" the wisdom of a crowd's decisions in retrospect. Stock prices go up or down depending upon the collective decisions of hundreds or thousands of investors, and we then declare that a company is worth a certain sum of money based upon its stock price. The company, in other words, is worth whatever the mass of investors says it's worth, which means the crowd is never wrong, and it would be foolish, or at least counter-intuitive, to disagree with it. Joseph Heller, in Catch-22
, neatly summarized the paradox: when asked what if everyone thought as he did, Yossarian replied "then I'd be crazy to think anything else." The crowd thinks the bank will fail, and in causing a run on the bank leads to its failure. The crowd thinks a company is undervalued, and causes its stock price to rise to match its higher valuation. In both cases, the crowd makes an accurate prophecy, but that's largely because it's a self-fulfilling one. In sum, crowds are right more because they are crowds than because they are right.