Behavioral economics

Behavioral economics (English Behavioral Economics ) ( behavioral economics) is a branch of economics. It deals with human behavior in economic situations. Here constellations are examined in which people act in contradiction to the model assumption of Homo economicus, ie the rational Nutzenmaximierers.

The special field of behavioral finance market theory ( engl. behavioral finance ) deals with irrational behavior on financial and capital markets.

• 5.1 heuristics
• 5.2 Systematic cognitive problems
• 5.3 anomalies
• 5.4 Criticism of the theory of Behavioral Economics

History

During the era of classical economics was a close link between economic theory and psychology. Adam Smith, for example, wrote an important text, in which he described psychological principles of individual behavior, The Theory of Moral Sentiments ( The theory of moral sentiments ). Jeremy Bentham wrote extensively on the psychological foundations of utility. Economists only began to move away from psychology, as they tried during the era of neoclassical theory to establish their discipline as a natural science. Now, an attempt was made to derive economic behavior from assumptions of the nature of economic actors. There the concept of homo economicus was developed, and the psychology of this being based on principle of reason. Nevertheless, the psychology influenced the analyzes of many important figures in the development of neo-classical theory, such as Francis Edgeworth, Vilfredo Pareto and Irving Fisher.

Towards the middle of the 20th century, psychology had largely disappeared from the economic discussion. A variety of factors contributed to the fact that they picked up again and the theory of behavioral economics have been developed. Models of expected utility and utility costs after deduction ( discounted utility) came to extensive recognition by supplying testable hypotheses under consideration of uncertainty and between temporal consumption ( Intertemporal Consumption). A number of observed and repetitive anomalies presented these hypotheses in question. Furthermore, cognitive psychology began in the 1960s, in contrast to models of behaviorism to view the brain as an information processing device.

Psychologists in this field such as Ward Edwards, Amos Tversky and Daniel Kahneman began to test their cognitive models of decision making under risk and uncertainty in economic models rational behavior.

Perhaps the most important essay in the development of the discipline of behavioral finance and behavioral economics was written by Kahneman and Tversky 1979. This paper with the name of Prospect Theory: An Analysis of Decision under Risk used cognitive psychological techniques to explain a number of documented abnormalities in making sound economic decisions. Other important steps on the way to the development of the discipline were a well-attended and diverse conference at the University of Chicago and a special issue in 1997 of the recognized Quarterly Journal of Economics in memory of Amos Tversky, which dealt with the topic of behavioral economics.

Methods

At the beginning of the theories of behavioral finance and behavioral economics have been developed almost exclusively from experimental observations and responses to inquiries. More recently, the importance of data from the real world increased. The Functional magnetic resonance imaging ( fMRI) was used to determine which brain areas are used in the various steps of economic decision-making. Experiments simulating market situations such as stock trading and auctions were considered to be particularly useful, as they allow to isolate the effects of a particular bias on behavior; the observed market behavior can typically be explained in several ways. Carefully designed experiments can help narrow down the number comprehensible explanations. The experiments are designed so that they provide similar incentives, with binding transactions are the norm, using real money.

Key observations

There are three main topics in the theory of behavioral finance and economics

• Heuristics: People often make decisions based on a simple, rapid and stable rule of thumb, not only based on an analysis of all possibilities.
• Classification (English framing): The way how a problem or decision is presented influences the action of the Crucial.
• Imperfect markets (market inefficiencies ): attempts to explain observed market actions, contrary to the reasonable expectations and market efficiency. These include defective pricing, unreasonable decisions and anomalies in earnings. Especially Richard Thaler has described in a number of essays specific market anomalies from the perspective of behaviorism.

Market-wide anomalies can not generally be explained on individuals who suffer from certain prejudices in thinking. Individual biases often do not have the sufficient influence to change market prices and profits. In addition, individual preconceptions can neutralize each other. Cognitive biases have really unusual effects only when there is a social contamination with a very emotional content, such as general greed or general panic. This then lead to widespread phenomena such as herding and groupthink. Behavioral economics is based as much on social psychology as on individual psychology.

There are two exceptions to this general statement. First, it may be that so many individuals make a biased behavior on display - that is a behavior that deviates from reasonable expectations - that this behavior is the norm and thus has market-wide effects. Furthermore, some behavioral models have explicitly shown that a small but significant group may cause market-wide effects ( see, eg, Fehr and Schmidt, 1999).

George Akerlof and Robert Shiller Also try to make findings of behavioral economics for macroeconomic Keynesian economic theory fruitful in her book " Animal Spirits ".

Topics of Behavioral finance

Key observations prompted the literature on behavioral finance to take up to acquire or retain the lack of symmetry between the decisions, resources. This is colloquially known as the " sparrow -in- the - hand - Paradox " means (Bird in the hand paradox ). The strong loss aversion or the strong regret that is associated with each decision in the objects for which there is a strong perceived commitment (for example, the house ), can be completely lost. Loss fears seem to manifest themselves, for example in investor behavior. When a sale of shares or other securities would have the consequence that a nominal loss must be realized, can often observe an unwillingness to perform this transaction ( Genovese & Mayer, 2001). This may also explain why prices do not approach the real estate market when demand is low the offer prices.

Benartzi and Thaler ( 1995) claim that they are the Equity Premium Puzzle ( securities premium puzzle) have solved by applied the theory prospectus. This is a mystery that conventional financial models so far could not solve.

Models of behavioral finance

For over 50 years, the neoclassical capital market theory dominates our understanding of the processes in financial markets. It has spawned a variety of theories and concepts (eg, portfolio theory, the Capital Asset Pricing Model, or value- at-risk) and is essentially based on the assumption of a strictly rational homo economicus.

Some financial models used in financial investment and asset valuation, use of behavioral finance parameters, for example

• Thaler's model of price reactions to new information, with three phases, underreaction, adaptation and over-reaction, which cause a price trend.
• The coefficient of share valuation

Criticism of the theory of behavioral finance

Critics of behavioral finance, such as Eugene Fama, mostly support the theory of perfect market. They contend that behavioral finance is more a collection of anomalies than a true branch of finance theory, and that these anomalies will eventually be priced out of the market or explained by invoking arguments of the microstructures of the market. However, it should be a distinction can be made between individual biases and social biases; the former can be compensated by the market, while the other feedback can cause that the market further and further from the " fair price " to remove. How far the theories that are based on the assumption of "perfect markets," were removed from the reality showed the subprime crisis in 2008.

A particular example of this criticism is found in some attempts to explain the equity premium puzzle. It is argued that the puzzle arises from the fact that market entry barriers ( both practical and psychological ) have previously prevented the entry of individuals in the securities trading. Accordingly, the difference of profits between securities and bonds will reduce with time as soon as funds are made ​​available electronic securities trading a large number of traders. Then answer other that much personal investment funds are managed by pension funds, so that the effect of these alleged barriers would be low. In addition, professional investors and fund managers seem to hold more bonds than one would expect given the long -term earnings differences.

Topics of Behavioral economics

Models in behavioral economics usually refer to certain observed market anomalies and transform conventional neo-classical models by describing decision makers as economic, that they are influenced by framing effects act arbitrarily in part ( heuristically ) or. In general, there is the theory of behavioral economics in the context of neoclassical theory, although the conventional assumption of rational economic action is often doubted.

Heuristics

• Prospect theory
• Loss aversion
• Tendency to the status quo
• The player fallacy
• Self-affirmation

Systematic cognitive problems

• Cognitive ranking: action due to observed patterns and signals, without checking their empirical evidence
• Inertia, attachment to old evidence: New information is not associated or only very slowly. If an assignment is made, then often wrong.
• Contagion: time and pressure to succeed and subjective knowledge gaps lead to uncertainty, which is managed by observation and imitation of others.
• Mental accounting
• Reference utility

Anomalies

• Endowment Effect
• Equity Premium Puzzle
• Money illusion
• Inequality aversion
• Efficiency wage
• Reciprocity
• Gut feeling
• Arbitrage limits
• Easterlin Paradox
• Momentum Investments
• Noise Trading
• Ellsberg paradox

Criticism of the theory of Behavioral Economics

Critics of behavioral economics typically stress the rationality of economic actors (see Myagkov and Plott (1997), among others). They contend that experimentally observed behavior can not be transferred to market situations, as learning opportunities and competition will ensure that there will be at least a broad approach to reasonable behavior. Others note that cognitive theories such as the theory brochure are only models of decision-making, not generalizable economic behavior, and therefore they are only applicable to the one-off decision problems, which are provided to the participants of experiments or surveys.

Traditional economists are also skeptical of the techniques used in experiments and surveys, which play a major role in the behavioral economics. Economists stress the importance of actual preferences as opposed to the " specified preferences " in surveys to determine an economic value. Experiments and surveys must be carefully prepared in order to avoid systemic biases, strategic behavior and the lack of Anreizvergleichbarkeit ( lack of incentive compatibility ). Many economists distrust because of the difficulty in excluding these possibilities the results that are obtained in this way. Rabin (1998) rejects this criticism by arguing that the results can be adjusted in different situations and countries, and they lead to good empirical confirmations of the theoretical models.