Journal of Health & Medical Economics

Description

The effects that psychological, cognitive, emotional, cultural, and social factors have on the decisions that individuals or institutions make, as well as how those decisions differ from those that are implied by classical economic theory, are the subject of research in behavioral economics. The limits of economic agents' rationality are the primary focus of behavioral economics. In most cases, insights from psychology, neuroscience, and microeconomic theory are combined in behavioral models. How market decisions are made and the mechanisms that influence public opinion are included in the field of behavioral economics.

The ideas that are used in behavioral economics today can be traced back to economists like Adam Smith, who thought about how people's desires could affect how they spend money. It has only been recently that behavioral economics has been recognized as a subfield of economics throughout the last three decades of the 20th century, the breakthroughs that laid the groundwork for it were published. The application of behavioral economics in teaching and research continues to rise. Even though psychology was not a recognized field of study at the time, many of the early neoclassical economists' writings included psychological reasoning. Adam Smith wrote about ideas like loss aversion in The Theory of Moral Sentiments, which became popularized by Behavioral Economic theory today. Another Neoclassical economist, Jeremy Benthham, saw utility as the result of psychology. Francis Edgeworth, Vilfredo Pareto, and Irving Fisher were three other neoclassical economists whose works included psychological explanations. A time of reliance on empiricism was established when the neoclassical school rejected and removed psychology from economics in the early 1900s. Hedonic theories, which viewed the pursuit of maximum benefit as an essential component in comprehending human economic behavior, were viewed with skepticism. Many people questioned the accuracy of hedonic analysis because it had shown little success in predicting human behavior. Economists also feared that psychology's involvement in the development of economic models was excessive and deviated from current neoclassical principles. They were concerned that the mathematical aspects of the field would suffer as a result of an increased emphasis on psychology. In his book The Stock Market Barometer, Wall Street Journal Editor William Peter Hamilton wrote, we have meddled with the law of supply and demand so disastrously that we cannot bring ourselves to the radical step of letting it alone.

Psychological Theories

Economists began focusing on real-world phenomena rather than psychological theories in order to improve economics' ability to predict accurately. Because psychology was a new field that was not considered to be sufficiently scientific, many of these economists thought it was unreliable. Even though some academics were concerned about economic positivism, psychological insights-based research models became rare. Instead, economists conceived of humans as purely rational and self-serving decision makers, as shown by the concept of homo economicus. The cognitive revolution has been linked to the resurgence of psychology within economics, which enabled the spread of behavioral economics. In contrast to behaviorist models, cognitive psychology began to shed more light on the brain as an information processing device in the 1960s. This field's psychologists, including Ward Edwards, Amos Tversky, and Daniel Kahneman, began contrasting their cognitive models of risk-taking with economic models of rational behavior. Economists were prompted to rethink the application of psychology to economic models and theories by these developments. Discounted utility models and the Expected utility hypothesis emerged simultaneously. Mathematical psychology reflects a longstanding interest in preference transitivity and the measurement of utility. Bounded rationality is the idea that when individuals make decisions, their rationality is limited by the tractability of the decision problem, their cognitive limitations, and the amount of time available. These concepts challenged the accuracy of generic utility and established a practice foundational in behavioral economics. According to this perspective, decision-makers act as satisfices, seeking a solution that is satisfactory rather than optimal.

Analysis of Decision

Bounded rationality was proposed by Herbert A. Simon as a different foundation for the mathematical modeling of decision-making. It adds to rationality as optimization, which views making a decision as a fully rational process of choosing the best option given the available information. Simon illustrated how minds use known structural regularity in the environment to make up for limited resources by using the analogy of a pair of scissors, with one blade representing human cognitive limitations and the other the "structures of the environment." The concept of bounded rationality implies that humans may make poor decisions by taking shortcuts. To assist in enhancing the efficiency of human decision-making, behavioral economists map the decision shortcuts that agents employ. According to bounded rationality, actors don't properly evaluate all of their options in order to save money on searching and deliberating. Because of the limited information available, decisions are not always made in the interest of the greatest self-reward. Instead, agents will be required to settle for a satisfactory solution. The book Nudge, written by Cass Sunstein and Richard Thaler, offers one approach to this concept. Due to human agents' limited rationality, choice architectures should be altered, according to Sunstein and Thaler. Sunstein and Thaler's proposal, which has been cited a lot, recommends putting healthier food at eye level to make it more likely that people will choose it over something less healthy. In 1979, Kahneman and Tversky published Prospect Theory an Analysis of Decision under Risk, which used cognitive psychology to explain various divergences of economic decision making from neo-classical theory. Some opponents of Nudge have claimed that changing choice architectures will make people make worse decisions. Using prospect theory, Kahneman and Tversky came up with the following three generalizations: Gains and losses are treated differently, certain outcomes are weighed more heavily than uncertain ones, and the problem's structure may influence choices. The majority of responses to a survey question that asked about avoiding losses rather than achieving gains were altered, and as a result, these arguments were partially supported. Basically demonstrating that feelings like fear of loss or greed can change decisions, pointing to an irrational decision-making process.