The Power of Behavioral Economics: Real People and Their Ways Influence Markets

Behavioral economics as an exciting and developing area of study, which results from finding a cross between psychological techniques and economic theory. It disappoints the norms of neoclassical economic theory, thus assuming that people make logical decisions in order to obtain the most utilitarian benefits. Contrary to that, behavioral economics views people’s behavior as being irrational and controlled by many aspects of psychology. This blog post examines behavioral economics and its deep impact on markets, policy, and life decisions, as well as its fundamental concepts and theories.

   A Quick Primer on Behavioral Economics

In the broadest terms, behavioral economics is about how and why individuals sometimes appear to act in negligently self-destructive ways. Unlike conventional economics which putsufenal’s rationality and people are aware of all that is going on, and they always make decisions that will benefit them, behavioral economics takes into consideration that people are biased, emotional and rational legally.

 Behavioral economics is a branch of economics that is relatively new into the overall field of economics. 

1. Bounded Rationality: Suggested by Herbert Simon, this theory frames the cognitive limitations which try to influence people when making certain decisions. HIV negative people engage in what is referred to as ‘satisficing’, that is, accepting a solution that is good enough but may not be the best, this is attributed to memory constraint and time.

2. Prospect Theory: Prospect theory deals with the manner in which people perceive potential losses as well as gains; it was invented by Daniel Kahneman and Amos Tversky. It shows that people are more protection-motivated with respect to loss than they are acquisition-motivated with respect to gain – that is, loss aversion. This theory tells more on why individuals may decline to take a beneficial risk since it carries with it a loss that they detest.

3. Anchorin: Anchoring is described as the impact deriving from focus on the initial piece of information received or the initial estimate – the “anchor”. For instance, if a house is advertised at $500,000 then it becomes a reference point by the buyers even though individual analytical skills and intelligence state that the cost should be lower.

4. Heuristic: They are reasons or working models in decision-making processes that enable humans to take less time making complex choices on what to do. However, heuristics are useful whereas they cause systematic mistakes or provide biased solutions. For example, the availability heuristic is the tendency that people make an overestimation of events which are perhaps dramatic, slow, or recent.

5. Nudging: Coined by Richard Thaler and Cass Sunstein, the term nudging is based on helping people make better choices, although without constricting their liberty. For example, putting a lot of healthy meals exposed to view in the cafeteria but not hiding other unhealthy meals will compel consumers to eat healthy without any restriction.

         The field of Behavioral Economics in Action

The research findings of behavioral economics affect different fields such as marketing, finance, public policies, and even personal finance portfolio.

  

              Marketing

Marketing managers use behavioural economics with the intent of shaping its consumers’ behaviours. Admittedly, consumers in many cases do not follow rational behaviour, thus, marketers apply techniques, such as anchoring and framing. For example, setting the price $9.99 instead of $10 plays with the left digit effect because prospect has an impression that price is much lower.

              Finance

This only means that behavioral finance deals with the psychological aspect of finance. For instance, investors have other damming characteristics such as overconfidence, herding behavior among others. Overconfidence makes investors assume that they know more than they do and underestimate risk while on the other hand, Herd instinct makes them charge blindly, which makes them result in bubbles and crashes.

     Public Policy

Policy makers apply the principles of behavioural economics to strengthen the efficiency of policies. For instance, in some countries, the process of joining pension savings schemes automatically doubles the interest rates compared to those obtained by voluntary association. Also, default choices on the use of organs dramatically enhances donor rates.

          Personal Finance

Practical application: People can use behavioral economics for better control of their effective money. To this effect, it’s possible to identify other such biases such that people can rectify their decision making process regarding savings as well as investment. The problem of present bias can be solved by commitments devices that limit the availability of funds up to some future time.

 Behavioral Economics Example: Second-Best Consumption Policies

 1. The Save More Tomorrow Program is one of the best established and researched examples of the PMT with controlling implementation.

Created by Richard Thaler and Shlomo Benartzi, Save More Tomorrow (SMarT) helps employees save for retirement. The program enables an employee to give up some amount of future he/she will expect to earn in salary to his/her retirement kitty. The targeted procrastination and loss aversion strategies of the SMarT program have therefore substantially increased the levels of savings among participants.

    2. The Power of Defaults

The case of organ donation also subsidises the argument of having opted-out system where most countries have higher donation rates compared to the countries with an opted-in system. This is a clear case of what the authors referred to as default choices: the fact that people continue to invest even when the market Rewards them only meagerly is due to the fact that the default choice is to continue investing.

 The following work aims at exploring future of behavioral economics.

Increasing acceptance of the branch of behavioral economics has been applied in many sectors such as health, education and the environment. With the development of machine learning, data analytics and AI, now they are attempting to employ those to create more targeted nudges and interventions.

        Health

With the help of Modern behavioural economics healthy behaviour patterns are being encouraged. For example, fun and social pressure can motivate people get moving and take their meals. Apps that involve feedback which can only be offered instantly and rewards that will lock in healthy habits, draw from theories of reinforcemen and satisfaction.

            Education

In education, behavioral economics draws the course of action when it comes to enhancing learners’ performance and learning experiences. For instance, when the progress is consistent with the goals one sets, the performance or achievement may well be enhanced; similarly, if students are given feedback right away, their morale may be improved.

       Environment

Another aspect that is relevant to encourage sustainable behavior is based on behavioral economics. Modified policies, such as he chosen`,

default options, or feedback on energy use, may bring consumption down dramatically.

        Conclusion

The approach of behavioral economics explains such interactions in extensive details of psychology and the economy. With this understanding and analysis of the irrationalities and biases, that govern the decision-making processes, BE offers practitioners rich and thorough patterns that can be implemented in different areas to deliver better results. Both in commercial and governmental activities, in advertising, accounting, politics and our pocket, behavioral economics provides the workings to engineer improved environments, make wiser decisions, and, thus, improve our standard of living. Altogether, the developments in this field are set to expand the contribution of Transaction Cost Theory for both theory and practice while providing new lenses for interpreting and constitution of the economic world.