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frame 'Nobel' Prize in Economics winner, Daniel Kahneman, was an important figure in the development of behavioral finance and economics and continues to write extensively in the field.Behavioral finance and behavioral economics are closely related fields which apply scientific research on human and social cognitive and emotional biases to better understand economic decisions and how they affect market prices, returns and the allocation of resources . The fields are primarily concerned with the rationality, or lack thereof, of economic agents. Behavioral model s typically integrate insights from psychology with neo-classical economic theory
Behavioral analyses are mostly concerned with the effects of market decisions, but also those of public choice, another source of economic decisions with some similar biases.
1 History
During the classical period, economics had a close link with psychology. For example, Adam Smith wrote an important text describing psychological principles of individual behavior, The Theory of Moral Sentiments and Jeremy BenthamJeremy Bentham ( February 15, 1748 June 6, 1832) was an English gentleman, jurist, philosopher, eccentric, and legal and social reformer. He is best known as the founder of utilitarianism. The life of Jeremy Bentham Born in Spitalfields, London into a wea wrote extensively on the psychological underpinnings of utilityThis article is about "utility" in economics and in game theory. For utility companies and similar concepts, see public utility. For utilities in computers, see computer software. In economics, utility is a measure of the happiness or satisfaction gained. Economists began to distance themselves from psychology during the development of neo-classical economics as they sought to reshape the discipline as a natural scienceThe term natural science as the way in which different fields of study are defined is determined as much by historical convention as by the present day meaning of the words. Thus the traditional description of natural science is the study of the physical,, with explanations of economic behavior deducted from assumptions about the nature of economic agents. The concept of homo economicus was developed and the psychology of this entity was fundamentally rational. Nevertheless, psychological explanations continued to inform the analysis of many important figures in the development of neo-classical economics such as Francis Edgeworth, Vilfredo ParetoVilfredo Pareto ( July 15, 1848 August 19, 1923) made several important contributions to economics, sociology and moral philosophy, especially in the study of income distribution and in the analysis of individuals' choices. He introduced the concept of Pa, Irving FisherIrving Fisher ( february 27 1867 Saugerties, New York april 29 1947, New York) was one of the earliest American Neoclassical economists. His work was, at the time, of unusual mathematical sophistication. He is credited with proposing the Phillips curve, t and John Maynard KeynesJohn Maynard Keynes [kens], 1st Baron Keynes of Tilton ( June 5, 1883 in Cambridge April 21, 1946 in Sussex) was an English economist, whose radical ideas had a major impact on modern economic and political thought. He is particularly remembered for advoc.
Psychology had largely disappeared from economic discussions by the mid 20th century. A number of factors contributed to the resurgence of its use and the development of behavioral economics. Expected utilityThe expected utility hypothesis is the hypothesis in economics that the utility of an agent facing uncertainty is calculated by considering utility in each possible state and constructing a weighted average. The weights are the agent's estimate of the pro and discounted utility models began to gain wide acceptance which generated testable hypotheses about decision making under uncertainty and intertemporal consumption respectively, and a number of observed and repeatable anomalies challenged these hypotheses. Furthermore, during the 1960s cognitive psychology began to describe the brain as an information processing device (in contrast to behaviorist models). Psychologists in this field such as Ward Edwards , Amos Tversky and Daniel Kahneman began to benchmark their cognitive models of decision making under risk and uncertainty against economic models of rational behavior.
Perhaps the most important paper in the development of the behavioral finance and economics fields was written by Kahneman and Tversky in 1979. This paper, ' Prospect theory: Decision Making Under Risk', used cognitive psychological techniques to explain a number of documented anomalies in rational economic decision making. Further milestones in the development of the field include a well attended and diverse conference at the University of Chicago (see Hogarth & Reder, 1987) and a special 1997 edition of the respected Quarterly Journal of Economics ('In Memory of Amos Tversky') devoted to the topic of behavioral economics.
