Different components of rationality - Deeper thinking beyond behavioral biases

There is significant talk of investor rationality and biases but little work which focuses on the details of what it means to be rational. Most of the behavioral finance revolution has been about what investors do wrong versus the "rational man". The rational man, homo economicus, is an optimizer. Usually nothing more is said about the topic. You either have biases or follow the axioms of choice and optimize. This framework is too simplistic.

Finance people have been weak on the details of what it means to be rational. Thankfully, others, especially in psychology, have done some of the heavy lifting concerning defining rationality. They separate rationality from intelligence. At a high level, rationality can be separated into two types, instrumental and epistemic. Instrumental rationality is associated with our ability to optimize in order to obtain our goals. Individuals, if rational, should act in a manner consistent with goals. Epistemic rationality is our ability to have beliefs that are consistent with the structure of the world. For example, it is not rational to believe the world is flat. This form of rationality is often tested with behavioral biases which can be distortion from reality. For example,  overconfidence can be viewed as a belief that is disconnect with reality.

A taxonomy of rational thinking can be divided into two main parts, fluid and crystallized. See the work on the development of rationality in "Assessing the Development of Rationality" by Toplak, West, and Stanovich. Fluid rationality refers to our ability to process information and situations. This rationality represents our behavior associated with thought and action. Irrationality will be the behavioral biases connected with fluid thought. There is a second component referred to as crystallized rationality. This is associated with our reasoning mind-ware and malware. We may have a framework for rational decisions but not the tools to solve the problem. Tools serve as rational thought facilitators while our belief mechanisms may be inhibitors.

To understand how better investment decision can be made, there needs to be first a framework for the components of rationality. This framework has to move beyond a list of faults and serve as a way to classify our rationality with well-defined situations.