Behavioral Economics and Standard Economic Model

The main question of the paper concerns the comparison of behavioral and mainstream economics. The concept follows a in a straight line range from different strategies and ideas of varied authors stating their view on behavioral economics as well as mainstream economics.

Mainstream economics is thought as the maximization of an individual's electricity function, whereby the power is a function of level of goods or services (McDonald, 2008), the basis of this concept tries to describe human habit on the fact that people's ingestion is important to them.

In evaluation to mainstream economics, behavioral economics targets psychological foundations trying to explain people's patterns on industry (Camerer, 2002).

Some benefits and troubles of behavioral economics: like the idea that it tries to explain tendencies not only rationally but includes subconscious aspects or the task of various techniques of professionals of behavioral economics will be discussed as well.

For the final comparison seven ideas of Dawnay and Hetan (2005) will be utilized, which is the most understandable and easy applying criteria. They are the following: Behavior of other people matters, meaning that we are influenced by other people; habits, which are hard to change; doing the right thing, namely, if we fail we live disappointed; targets, including perceptions of how others should react; loss aversion, involving the fact that humans try to avoid loss; computation problems, meaning that probabilities are hard to estimate by hand; and engagement and effectiveness, refereeing to the fact that folks who are involved in several activities are more motivated.

These seven key points help compare mainstream and behavioral economics. Nevertheless a whole lot of different solutions and things to consider of theories intensely influence the final comparison as it does not simplify the result.

As there are no major magazines on behavioral economics compared to the conventional or standard economical model this newspaper should identify the key differences of both approaches.

The notion of presenting the results of the assessment is to apply all mentioned ideas and make a comparison of several strands. So that it was decided that simple principles will be used for the ultimate evaluation of behavioral economics and mainstream economics.

Presentation of the Problem

The main questions of this paper which is answered, are

  • What is behavioral economics?
  • What will be the benefits and issues of behavioral economics?
  • What can be known by the standard economical model?
  • What other concepts or ideas get excited about behavioral economics?
  • What are the similarities and distinctions between behavioral and typical economics?

Concept

In order to understand how the work was completed a short release of the concept will get in the following paragraphs.

First, different meanings of creators will be provided so as to give a brief usage of the field of BE. This includes history and basic concepts as well as what BE tries to do. Methods, benefits and troubles will be mentioned in the next chapters. In the section of way of comparison, ideas are explained with which a comparison between ME and BE can be done. As in the previous section it was discussed that BE and ME differs this will be shown in the section of differentiation. Seven principles will be mentioned which will be used for the ultimate comparison.

The next instance will be concentrating on the assessment itself as well as the research results including the seven principles pointed out in the last chapter.

The previous section is regarding the final final result and limits and restrictions of the work.

In the appendix two main questions about this issue including brief answers can be found.

Review of Literature

In the next paragraphs a short summary will be given, on what can be realized by conventional, mainstream or standard economics and behavioral economics. Furthermore the question on what are the key aspects and concepts of these approaches will be responded.

Conventional, Mainstream or Standard Economics

Conventional Economics, Mainstream or Standard Economic Model is defined as the process of a person who tries to increase a computer program function, in which utility is a function of the amount of goods and services used by that individual (McDonald, 2008). It offers explanations of tendencies and is dependant on the fact that people's own utilization is vital for these people.

The standard or also known as neoclassical economic examination assumes that humans are logical and behave in ways to maximize their individual self-interest (Dawnay and Shah, 2005). As this rational assumptions causes powerful examination it also has its shortcomings which can conclude within an unrealistic research or policy-making. It is therefore important to add behavioral concepts which will be discussed within the next sessions.

Behavioral Economics

Behavioral Economics (BE) increases the explanatory vitality of economics by giving it with an increase of realistic internal foundations (Camerer, 2002). According to Mullainathan and Thaler (2000) this can be a combination of psychology and economics that investigates what happens in markets in which a few of the agents display human limitations and problems. As can be seen from both given meanings behavioral economics is concerned about the real human aspect in decision making as well as economical issues that are relevant.

History and Evolution of Behavioral Economics

Adam Smith was main supporters of the idea of including human patterns in economical models (Upson, 2010); whereas in the 18th hundred years it was disregarded, because of the fact that a more rational methodology was taken. However in the mid of nineteen hundred a deeper and clearer knowledge of psychology effects was identified.

The Theory of Moral Sentiments, which has been written in 1759 by Adam Smith, who's known for the concept of the invisible hand and his publication the riches of countries, examines "psychological rules of individual tendencies that are probably as serious as his economical observations" (Camerer and Loewenstein, 2002).

The reason economists are actually more centered on behavioral economics, in contrast to the standard financial model, is that they have realized that normal models are dogmatic and might not be natural (Rubinstein, 2005). It also is actually a result of the new research concentration and the search of new guidelines in research in order to describe human's tendencies.

Basic Concepts

Upson (2010) brought up three basic ideas in behavioral economics: First the guideline theory, second the framing problem, and third market inefficiencies. These key points will be explained below.

Rule of Thumb

People refuse logical thoughts and act based on the guidelines meaning that they act according to the principle that you will get what you paid for. Nevertheless, even cheaper products can sometimes be as good as more expensive ones but people understand it as superior and purchase the more expensive goods.

Framing Problem

When people face a challenge their thoughts are damaged by the display of the situation. Which means that if stores advertise something differently people will respond in diverse ways. For instance, most humans perceive a 75% discount of the original price more nice than a discount of $3, 00 you should definitely knowing the initial price. Therefore the presentation of this discount can affect the decision of where to buy which product.

Market Inefficiencies

The third idea in behavioral economics matching to Upson (2010) is the fact that benefits can be explained if they fluctuate to the last objectives. Market efficiency is defined as prices which reveal all information available in regards to a stock. Therefore every trader has the same knowledge. On the other hand, market inefficiency is concerned about happenings that mistrust the thought of market efficiency. Therefore shareholders could sell overvalued stocks, buy undervalued stocks and shares and can gain a lot of money in a non-rational way.

What Behavioral Economics tries to do

Predictions and useful theoretical frameworks which can be applied by economists can be utilized in different kinds of financial or even non-economic behaviors that your neoclassical approach explains. The main focus on of BE is persuasion which increases the fortification of monetary analysis bettering theoretical insights, indicating better regulations and providing appropriate predictions of field phenomena (Camerer and Loewenstein, 2002).

Methods of Behavioral Economics

Generally the techniques found in BE are similar or even exactly like in other areas of economic. First experiments were found in order to distinguish certain manners from standard ones due to the fact that the experimenter has enough control.

Nowadays behavioral economists expose other methods which are already utilized by economists. Several new contributions and new aspects of BE relies on field data and field tests (Gneezy and Rustichini, 2002), brain scans (McCabe et al. , 2001) and computer simulations (Angeletos et al. , 2001).

Benefits of Behavioral Economics

BE tries to involve more areas of human behavior in order to predict final results as well concerning make clear different kind of behaviours (Camerer, 2002). In addition it depends on ME analysis and thus generates theoretical insights that happen to be valid throughout a very long time.

Therefore it could be seen from the paragraphs including various disciplines, concepts and strategies that some troubles might occur because of the fact that a big number of differing ideas come into play.

Challenges of Behavioral Economics

As already talked about in previous portions it is difficult to identify BE or even find one prefect way of application. This is for the reason that different brains have different behaviour and viewpoints. Hence there are a few challenges witch results from these facts.

According to Prelec and Levy (2006) BE is not regarded as a standalone theory, signifying an alternative psychology theory. To a greater extend it is seen as a rejection of the known style of "if" conditions which is concerned about the fact that the sole criteria of assessing an economic model is industry itself. Moreover both authors state that behavioral economists depart from the "as-if" tackle by using emotional plausibility.

Approach to Comparison

The aim of this section is to explain different parameters to be able to compare BE and mainstream economics (ME). Which means key dimensions that are related to its approach of science have to be identified. Corresponding to Tomer (2007) the main dimension to distinguish BE and ME are the following: Narrowness, rigidity, intolerance, mechanicalness, separateness and individualism. These will be explained in this posting.

Narrowness

As narrowness is important for the comparison measurements it will be talked about first. If a way or its scope of substantive inquiry is restricted by an monetary discipline you can say that the economic discipline is slim or high in narrowness if it is severe. If the questions that are looked into are limited in conditions of socio-economic issues, or if historical or institutional aspects are participating, are excluded, narrowness might be high.

Rigidity

An economic discipline is saturated in rigidity, which is different from narrowness in terms of versatility, if it has a strong attachment to a particular form of narrowness. This embraces that the ability of flexibility, concerning methods which are used, is missing.

Intolerance

Intolerance is defined as the unwillingness to recognize and respect distinctions in thoughts or beliefs (Princeton, 2010). Under this aspect you can notice that intolerance in terms of methods used would, lead to a non open up minded methodology towards other economic sciences.

Mechanicalness

The amount of mechanicalness identifies the extend someone leads his principles, meaning that disciplines are saturated in mechanicalness if indeed they behave as machines. On the other hand, meaning that the lower the mechanicalness is, the greater practitioners make an effort to see the overall economy as an "organic, alternative, evolving, individual entity" (Tomer, 2007).

Separateness

Separateness appoints to the actual fact that the willpower can stand alone and it is not related or dependent on other disciplines.

Individualism

If a thought is seen as a result of patterns and events of people it is saturated in individualism. On the other hand, low individualism means that the aspect is laid on individuals that are part of your collectivity or cultural group which tendencies and motivators differ from an individual one.

Comparison Sizes in Use

When using these six assessment dimensions a widespread map can be drawn in order to locate the self-control between others. In the next period mainstream economics will be reviewed by using the prior mentioned characteristics.

Comparison Proportions in Mainstream Economics

Colander (1991) evaluated that mainstream economics apply different varieties of mathematical modeling to the removal of empirical examination and ideas as well as background, institutions and policy. There it could be seen that different writers give attention to narrowness associated with mainstream economics over a formal numerical model. Regarding to Thaler (1996) rationality, self-interest and self-control should be included when dealing with monetary aspects that are not mentioned in mainstream economics. Therefore mainstream economics' narrowness can be an unquestioning acceptance of the three assumptions.

Rabin (2002) noted that mainstream economics will not include results of BE and is also therefore inflexible or rigid.

Scientists should be tolerant to other researchers' views and ideas (McCloskey, 1994). McCloskey explained on the problem of intolerance that mainstream economics is even more arrogant than physicists.

The mechanicalness of mainstream economics is discussed by Veblen (1898) who stated that perspectives that happen to be human being and evolutionary in mainstream economics lack.

According to Hausmann (1992) mainstream economics has a high amount of separateness from other interpersonal knowledge disciplines, i. e. the methodological dedication is happening.

The previous point which concerns individualism is identified by Hausmann (1992) by little attention which is directed at public and group habit and motivators, mainstream economics is therefore more concerned with self-interested individuals.

Behavioral Economics and its own strands

As BE is part of theories that happen to be bounded jointly (Camerer, 2007), different works of specific practitioners should be considered before an evaluation between BE and ME can be designed. Eight different ideas of BE will be soon discussed.

Herbert Simon

Simon's approach is "lower in narrowness, not rigid, tolerant, low in mechanicalness, suprisingly low in separateness and much less individualistic than Me personally" (Tomer, 2007). Which means that he researches the amount of how logical and self-interested decisions are considered. Simon was tolerant regarding the use of other models. In his view economics shouldn't be segregated from other sciences.

Georg Katona

Psychology is the main part in this approach. Interviews and surveys were used to assemble data in order to gain understanding of behaviors and behaviour. Therefore no numerical model was used.

Psychological economics (PE)

Camerer, Fehr, Kahnemann, Laibson, Loewenstein, Rabin and Thaler are the key professionals of PE. It offers cognitive mindset and matching to Camerer and Lowenstein (2002) its research uses four principles. Specifically, first the id of ME's models, second identification of contradictions of the model, third use these contradictions in order to identify alternate solutions in conditions of ideas, fourth engineering of types of economic behavior making use of these new assumptions, afterwards test them and branch new implications.

ME uses more numerical models than PE, the second option is more versatile and pragmatic, more tolerant and less mechanised than Me personally.

Harvey Leibenstein and X-Efficiency (XE) Theory

The theory was initially introduced within an article in 1966 by Harvey Leibenstein. One of the main fans who does a whole lot of research on this methodology as well is John Tomer.

The main idea of XE theory is to question the rationality assumption, namely the idea of people maximizing. No numerical model is utilized to describe the theory. It cannot be seen as completely separate strategy due to the fact that it's laid on different assumptions of Me personally. Leibenstein's achievements count on people who are self-interested but not rational.

George Akerlof and behavioral macroeconomics

This approach is dependant on behavioral macroeconomics in terms of mindset and sociology. ME is more narrow than Akerlof's attitude to economics. He is available to research questions no formal numerical model is used. His work is not mechanised due to the fact that sociology and mindset aspects of habit matter.

Richard Nelson, Sidney Winter and the Evolutionary Theory (ET)

Winter and Nelson have been pioneers in this type of field of studies. The methodology is dependant on biology, namely Darwin's idea of natural selection to be able to survive. That is then put on organizations. ET is lower in narrowness and available to other research methods, not using any mathematical models.

Behavioral Financing (BF)

BF can be involved with approaches of mindset which will try to explain variations in stock marketplaces. Therefore it is seen as a strand of BE. Benefits of marketplaces and investment decisions of people can be inspired by the composition of information and the characteristics of the marketplace participants. This idea includes mathematical methods in terms of finance but is pragmatic and adaptable by using other models. Due to that, the amount of rigidity is low and tolerance is important due to the fact that social research approaches are employed.

Vernon Smith and Experimental Economics (EE)

As the term EE already implies in this idea laboratory experiments are included. The results of these checks show that final results of markets tend to be more rational than we would have expected by having less rationality of people.

This theory is less slim than ME and does not involve mathematical models. Its rigidity is relatively low because of the style of the experiments which are flexible and pragmatic. Mechanicalness is low by reason that humans get excited about these tests which cannot be compared with machines.

Comparisons of Theories

As is seen on the table below, a brief summary is distributed by Tomer (2007) including all previously listed criteria and ideas. The author mentions that ME is high in every of the six measurements of comparison. On the contrary, the strands of BE are usually more on the right side and therefore they are simply more tolerant in many aspects. Additionally Tomer emphasized that BE is "distinctly not the same as Me personally" (2007).

Figure 1: Evaluation of ME and BE strands

Behavioral Economics differs from Mainstream Economics

Mainstream economics is usually conceptualizes by calculating and overlooking the behavior which was studied by sociable psychologists. Thaler and Mullainathan (2010) argued that the typical model is more relevant and easier to formulate. BE modifies three qualities of the typical economic model which are unbounded rationality, unbounded willpower and unbounded selfishness. Already in 1955 Simon criticized the idea of men and women having endless information available. He developed the concept of "bounded rationality" signifying concept development of how people's capacity to resolve problems look like.

Loss aversion and mental accounting are two other important aspects regarding BE corresponding to Thaler and Mullainathan (2010). A suitable example of both of these phenomena is given by Camerer et al (1997). A report of New York's taxi cab drivers clarifies the issue of paying fees for the automobile and leaving the choice of how long to work to the individuals themselves. The authors of the study found out that as opposed to theory which would expect that motorists would quit working on bad days and nights and work much longer on good times; in reality it's the other way round.

The second prone principle of mainstream economics is the fact self-control is often lacking even if people know what is best on their behalf.

The last matter concerns selfishness of individuals, particularly self-interest is people's major motive. Folks are not eager to contribute to open public goods if their private welfare is not improved upon (Thaler and Mullainathan, 2010).

Comparison and Research Results

After analyzing all previously listed strands, theories, solutions and concepts it is absolutely difficult to choose the appropriate and most useful ones in order to be able to implement a comparison.

Therefore it was decided on the most complete and easiest understandable notion and ideas of Dawnay and Hetan (2005), that have integrated and applied a thought of seven guidelines. Moreover this process is relatively new and therefore most relevant.

Seven Concepts used for the ultimate Comparison

Seven key points of Dawnay and Hetan (2005) will be utilized for the ultimate comparability of behavioral and mainstream economics. These criteria seem to be easy and simple to comprehend by an audience which is not familiar with the definitions and measurements of behavioral or mainstream economics. Therefore these seven aspects will be protected in greater detail within the next paragraphs.

Principle 1: Other people's behavior matters

This first basic principle identifies the esteem or belonging need of Maslow's hierarchy of needs (1943) where he explained that individuals need to value themselves as well concerning be accepted by others and gain reputation. Therefore people's habit is inspired by other behaviors due to the fact that they want to belong to an organization as well as they ask themselves how would a person of my social group react on the certain event. Moreover matching to Dawnay and Hetan (2005) public learning is a process of learning how to behave by taking other's habit as a role model. If the individual is an authority or a person people trust or value, they are really even more available for impact.

As ME is not worried about behavior of other folks this principle has no effect on Me personally.

Contrary for BE, who's motivator are habit of others. Ideas that are related to psychology include interpersonal learning (learn by watching what others do), sociable proof (look at others to observe how to respond), social identity theory (communal identity originates from teams we associate with), and key influencers (available to influence from authority people, or people we like).

Principle 2: Habits

No cognitive effort is necessary if we do something out of behavior. Daily routines can quickly become practices such as what things to have for breakfast. But even if we think about changing our action we do not change. It is because of potential obstacles of changing habits and hassles that are associated get back changing. The old habit can even be reinforced if people get a compensated feeling, e. g. of traveling to work by car, just because it is convenient and easier than heading by public travelling.

According to ME people make an effort to maximize their power rationally. Thus this principle is not valid for the neoclassical economic approach.

In conditions of sociable norms, psychologists have decided on the idea of past action frequencies impact current action. Therefore habits are hard to improve when it has been repeated frequently, there are strong related rewards and if the compensation comes soon after the action was taken. On the other hand real human think consciously about something if the action is sophisticated, the results of the actions are important and there will do time and knowledge to take action. Also visualizations can help to change behavior, e. g. cues such as visible recycling facilities which make it better to recycle compared to throwing things away.

Principle 3: Do the proper Thing

The third basic principle states that individuals are motivated to do the right thing. Moreover people feel bad if they make an effort to do the right thing and fail. An offset can be induced by a abuse, e. g. an excellent, because following this punishment the feeling of payoff and a serenity of conscience is given. On the other hand, we may agree to a fee or punishment while continuing with the bad behavior.

Also the fairness factor should be mentioned here, because the sense of fairness leads us to punishment of others if their tendencies is not that which we expect it to be.

According to neoclassical economics or ME, financial costs and benefits would be added up in order to expect encourage after rewards and discourage after financial fines.

On the other hand, BE accepts that one motivators, which why don't we do activities or activities for our own reward, and exterior motivators which why don't we do things for extrinsic reasons. Also fairness is important for behavioral economists. Humans will donate to any activity more if they perceive an increased fairness.

Principle 4: Expectations

Behavior is affected by people's self-expectations. They have perceptions about targets and about other people's behavior as well. In the event the behavior does not fit to beliefs, attitudes and values, people might adjust these before changing their tendencies. Additionally it is more important who declares values, behaviour and beliefs. If it is a complete group with high degrees of communal capital makeing a committed action, the effect will be much bigger.

As preferences are given in the analysis of ME, neoclassical practitioners would not include any idea of self-expectation or commitments.

Contrary if you ask me, BE relies on the fact that our behavior is influenced by others. Particularly, we will change our patterns if it generally does not fit to our attitudes. Additionally Dawnay and Hetan (2005) stated that humans have three views of themselves: real, ideal and ought-self, meaning the duty the way you need to be. Also three views of what others think folks, accumulated to lots of six unique types of self-concept.

Principle 5: Loss-Aversion

Two biases are known, when talking about reduction aversion. First, people will try to avoid losses which may be attached to high hazards but at the same time, in order to gain something, only small dangers are taken. The next bias concerns the concept of possession. If people understand something as their own it will gain some extra value.

ME expects visitors to have a preference for risks rather than for loss or gain. Human's willingness to pay is assumed as being the same as willingness to accept, and therefore selling something which they own, for the same price as they might buy it.

BE practitioners include the fact that individuals will put more effort into protecting against a loss than willing to get. Moreover they found out the effect that determination to pay is not the same as willingness to accept which they call the endowment effect.

Principle 6: Computation Problems

Probabilities are hard to be computed by hand and therefore can influence your choice over a problem. Seven biases are brought up by Dawnay and Hetan (2005).

Salience: overestimation of odds of occasions, e. g. something that can be imagined easily; something with a short-lived extreme experience; something lately experienced. Therefore things that happen often are also underestimated.

Discounting: underestimation of relevance of distant future occurrences. Choosing short-term rewards over long-term rewards.

Framing: affect of presentation of final results when deciding between two actions. Often coupled with reduction aversion.

Defaults: Influence of defaults establish by authorities

Intuition: Intuitive answers, which will be wrong, will be used instead of thinking about it with a straightforward mathematical question. Nevertheless, if the outcome has an importance value, deliberate thinking will be involved in order to gauge the problem or event.

Fundamental attribution problem: The sensation of experiencing control over a predicament is very important for humans. Therefore if something happens to someone else, it must be their mistake.

Price can indicate value: if something is offered for free, people won't value it the same as the same product or service that includes a monetary price.

For Me personally computation problems aren't relevant as it is assumed that people have sufficient information and can handle calculations and complicated choices to be done.

In general, it can be said that folks work on the rule of calculating on the guideline basis, and therefore they are influenced by all these biases.

Principle 7: Participation and Effectiveness

When folks have the sensation of control, they may be highly determined to shift what to the better. Nevertheless, if there is too much information they receive the impression of helplessness and inaction. On the other hand, if there are way too many choices which can be taken, an overwhelming feeling will arise and folks do not know what to choose.

As ME desires people to act rationally, more info will be considered as optimal in order to make the best option possible.

More Information and alternatives can lead to overwhelming feelings or reduce self-effectiveness. Additionally a research mentioned that in Swiss cantons individuals were happier if they had an increased ability to participate in different activities.

Conclusion

After briefing all these theories, principles, ideas and techniques and comparing the standard or ME model and become, it must be said that there are still some restrictions and limitations on meanings and deciding factors concerning the main notion of BE. Nevertheless a few authors tried to triumph over these problems and created their own theories and conception of what they understand under BE.

Some of the limits and limitations will be reviewed below before a final conclusion on how to compare ME and become will be carried out.

Limitations and Restrictions

First of all, the results of the paper as well as the whole assessment was limited in terms of simplicity because of the fact that BE is not yet perfectly researched and explored. Therefore many different authors explain it in different ways as well as they stress on very different aspects and ideas. This may also be seen in the part of books review, where it was tried out in summary the major ideas of the primary practitioners of BE.

Furthermore the seven rules that have been used for the final comparison of ME and BE can be interplaying and therefore interact with one another. Moreover it might be essential to research upon this phenomenon in order to identify any interplay between these key points.

Regarding the constraints of the task, it must be said that BE is an extremely intricate field of study which will try to find its way throughout ideas and concepts as well as approaches and aspects which have to be concerned. Thus both an evaluation of BE and ME is hard to work through and difficult to manage in a visual way which was the idea initially.

Nevertheless regarding to Robert Frank (2008) BE has a "really positive influence on economics as a discipline".

Final Realization on Comparison

After evaluating each one of these different starting tips of writers, the assessment was conducted with easy and simple understandable principles of Dawnay and Hetan to keep it as obvious as possible but on the other hand giving students the ability of trying to comprehend the key points of BE. This is tried to be done by including various principles at the start and show which details of a model might be included but leaving the alternative of understanding of different strands.

Nevertheless, more research, which aspects of action and known reasons for human habit should be included, should be conducted, to be able to get more knowledge about these facts. Additionally a common sense of what behavioral economics stands for should be mentioned as well as which methods and models are being used for gathering data should be decided on.

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