Chapter 8
Behavioral Economics
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Comparing Behavioral Economics
with Neoclassical Economics
• Neoclassical Economics
• People have stable preferences that aren’t
affected by context
• People are eager and accurate calculating
machines
• People are good planners who possess
plenty of willpower
• People are almost entirely selfish and selfinterested
LO1
8-2
Comparing Behavioral Economics
with Neoclassical Economics
• Behavioral Economics
• Focusing on the mental process behind
decisions
• Improving outcomes by improving decisionmaking
LO1
8-3
Our Efficient, Error-prone Brains
• Heuristics are energy savers
• Riding a bicycle with steering heuristics
• Guesstimating ranks with the recognition
heuristics
• The implications of hardwired heuristics
LO2
8-4
Our Efficient, Error-prone Brains
• Brain Modularity
• System 1 and System 2
• Cognitive Biases
• Confirmation Bias
• Overconfidence Effect
• Availability Heuristic
• Planning Fallacy
• Framing Effects
LO2
8-5
Prospect Theory
• People judge good things and bad things in
relative terms, as gains and losses, or status
quo
• People experience both diminishing marginal
utility for gains as well as diminishing marginal
disutility for losses
• People experience loss aversion
LO3
8-6
Prospect Theory
•
•
•
•
•
Losses and shrinking packages
Framing effects and advertising
Anchoring and credit card bills
Mental accounting and overpriced warranties
The endowment effect and market
transactions
• Status quo bias
LO3
8-7
Myopia and Time Inconsistency
• Myopia
• Time inconsistency
• Self-control problems
LO4
8-8
Myopia and Time Inconsistency
• Fighting self-control problems with precommitments
• Hiding the alarm clock
• Automatic payroll deductions
• Salary smoothing
• Early withdrawal penalties
• Weight-loss competitions
LO4
8-9
Fairness and Self-Interest
• Field evidence for fairness
• Giving to charity
• Obeying the law
• Fixing prices
• Purchasing the “Fair-Trade” products
LO5
8-10
Fairness and Self-Interest
• Experimental evidence for fairness
• The dictator game
• The ultimate game
• The rules
• How players Behave
• Why the threat of rejection increases
cooperation
• Implications for market efficiency
LO5
8-11
Nudging People Toward
Better Decisions
• Behavioral economics sought to explain a
number of behaviors
• Used to “nudge” people towards choices that
are better for themselves and others
8-12