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I don't think anyone is afraid of that. But I can tell you from experience that there ARE some doctors out there (and some surgeons) who WILL fail students on rotations out of spite. It's never happened to me (thank god), but I've seen it happen to friends.
I know the arguments: a surgeon shouldn't be able to fail you just because you said you wanted to do psych. Yeah. I know. But, in some places, that can still happen. This may be more of a problem at certain schools and in certain rotation structures, and I think might be more of a problem at DO schools, like mine, where the doctor doesn't actually work for the school and there's very little actual contact between them and the school and very little way for the school to discipline someone who is abusive to students. The school is under pressure to have enough rotation spots for students to rotate at, so they might be "forced" to keep the horrible person...because a horrible teacher is better than none...at least as far as accreditation goes. It could also be a big problem in the situation someone described above, where the powerful mega-grant surgeon chair can't be questioned and is malignant.
The fear of failing a rotation is pretty strong. My rotation grades were 100% subjective, based on my attendings' impression of me. I know some schools blend the subjective grade and the NBME shelf grade, but our grade was 100% subjective + pass/fail shelf. So, if the attending decided to fail us, there's nothing you can do but retake the rotation...which isn't always possible if you've already burned your vacation month, for example.
An "interruption in your medical education" caused by a rotation failure (and even a lone rotation failure) can have a HUGE impact on one's career and match prospects. So, it's definitely a concern some of us have to deal with.
That being said, there are certainly much bigger things to worry about.
For the record, I was very upfront with both of my surgeons I worked with about my psychiatry interest and they were both very understanding and supportive, despite one being your "typical" surgeon. But by that point in the year, the end of 3rd year, I knew 1000% for sure. Much earlier in the year, I simply said that I really enjoyed my psych rotation (which was true) but that I was going to give everything a try before making a final decision (also true). Which is, I think, the best way to handle it.
That does make it hard, and you're right, actually failing a rotation will hurt you when you apply to residency. I went to a school where no one got failed for rotations ever -- I'm sure it could happen in cases of gross incompetence or for just plain not showing up -- but I never saw it happen. Getting a C was essentially the equivalent of failing. I think my experiences are not atypical for most allopathic (and probably osteopathic) schools, which might cloud some of the advice that we're giving here.
You also hear stories here about residents getting fired for pissing off one random attending. I kind of assume that there's something else going on there, but who knows.