Lectures Economic Psychology
Inhoud
Lecture 1: Introduction & Course Set-Up...................................................................................2
Lecture 2: History of Economic Psychology..............................................................................3
Lecture 3: Expected Value and Utility Theory...........................................................................6
Lecture 4: Prospect Theory and Beyond.....................................................................................8
Lecture 5: Alternative Models of Choice..................................................................................11
Lecture 6: Emotion-Based Choice............................................................................................13
Lecture 7: Intertemporal Choice...............................................................................................14
Lecture 8: CANCLED..............................................................................................................16
Lecture 9: Fairness....................................................................................................................16
Lecture 10: Self-Interest and Social Preferences......................................................................17
Lecture 11: Maximization and Greed.......................................................................................18
Lecture 12: Unethical Behaviour..............................................................................................19
Lecture 13: Doing Research in Economic Psychology.............................................................21
Lecture 14: Exam Preparation...................................................................................................23
,Lecture 1: Introduction & Course Set-Up
Economic Psychology: studies how individuals affect the economy and how the economy
affects individuals.
Some Psychological Principles:
Many Choices are Automatic: people do not always know what they want and why
they do something, so there behaviour is not rational, but automatic.
People are Social Animals: it is not only about what you have, but also about what the
other has.
People respond to Mental Models: there is not always an objective truth, your actions
depend on your perspective
People are hard to mobilize: they are inert and do not optimize, it is hard to make
people do something.
Small changes can have big effects and these are not always easy to predict.
,Lecture 2: History of Economic Psychology
Rationality:
Normative/prescriptive theories: how should people make decisions?
Descriptive theories: how do people make decisions?
Small changes can have big effects, but they are not always easy to predict. Examples:
Rewards may be counterproductive (the cobra effect): seen in cases where incentives
encourage undesirable behaviour.
Punishment may be counterproductive: seen in studies on teenage behaviour and
unwanted pregnancies.
Adam Smith (1723-1790):
Rational Economic Man: individuals make decisions rationally, aiming to maximize
their own well-being.
Self-interest is good; Individuals acting in their self-interest unintentionally benefit
society.
The Invisible Hand: personal economic pursuits lead to positive societal outcomes.
For example, a butcher, brewer, or baker work to earn a living (not out of
benevolence) but indirectly helps to feed the community.
Empathy and moral feelings: humans naturally care about the well-being of others.
Conscience and Social Approval: people’s moral judgments are shaped by their social
relationships, with conscience arising from an internalized “impartial spectator.” This
idea implies that people’s actions are not purely self-interested but influenced by a
desire for social approval and a sense of shared humanity.
Blaise Pascal (1623-1662):
Expected Value = EV = p * X
The value of future gain should be directly proportional to the chance of getting it.
Daniel Bernoulli (1700-1782):
Expected Utility Theory: posits that people make decisions by assessing the
probability of outcomes.
St. Petersburg Paradox: people do not evaluate risky choices purely based on
expected monetary value but rather on the expected utility. He suggested that the
utility of money increases at a decreasing rate; this is known as diminishing marginal
utility. For instance, doubling one’s wealth does not double one’s happiness or
satisfaction.
Jeremy Bentham (1748-1832):
In order to maximize, we need to be able to quantify and compare the amount of
happiness/pleasure of possible acts.
Hedonic calculus: a systematic way to measure pleasure (hedons) and pain (dolors).
John Stuart Mill (1806-1873):
The Greatest Happiness Principle (Utility): actions are right in proportion as they
tend to promote happiness, wrong as they tend to produce the reverse of happiness.
, Economics Psychology
Assumptions about behaviour Research about behaviour
Aggregated behaviour Individual behaviour
Normative Theory Descriptive Theory
Deductive Inductive
Deviations from theory (anomalies) Separate theories for anomalies
George Katona (1901-1981):
Reintegrated psychology with economics through behavioural economics.
Herbert Simon:
Bounded rationality: humans are rational within limits.
Satisficing: a decision-making strategy where individuals choose an option that meets
a minimum acceptable threshold, rather than seeking the best possible outcome. In
other words, they "satisfy" and "suffice."
Study of cognitive processes leading to decisions
Daniel Kahneman:
Heuristics and biases in judgment: people frequently use mental shortcuts, or
heuristics, to make quick decisions when faced with complex problems or uncertain
outcomes. While heuristics can simplify decision-making, they often introduce
predictable biases.
Prospect theory: captures how people actually perceive and make risky choices,
particularly involving potential gains and losses. This is an alternative to expected
utility theory, which assumes that people evaluate outcomes solely based on their
overall utility.
Risk aversion for losses: people are generally risk-averse when it comes to gains
(preferring a certain gain over a larger but riskier one) but risk-seeking when it comes
to avoiding losses.
Richard H. Thaler:
Mental accounting: how individuals categorize, track, and evaluate money in
separate "mental accounts," often leading them to treat money differently based on its
origin or intended use.
Behavioural finance: applies psychological insights to understand anomalies in
financial markets
Fairness: people’s economic decisions are often guided by notions of fairness, which
can override strict self-interest, especially in social and financial contexts.
Self-control: the struggle people face between their immediate desires and long-term
goals, often leading to decisions that are not in their best interest.
Assumptions of Economic Theory:
Stable Preferences: Preferences are consistent over time and across different
situations, meaning people’s choices remain predictable.
Self-Interest: Individuals act out of self-interest, seeking to maximize their personal
benefit without necessarily considering others’ welfare.
Maximization (Greed): People aim to maximize their utility or profit in every
decision.
, No Cognitive Limitations: Economic theory assumes people have unlimited
cognitive abilities to process information and make complex calculations.
Unlimited Willpower: Individuals are expected to act according to their long-term
interests without succumbing to short-term temptations or self-control issues.
Complete Information: People are assumed to have access to all relevant
information, which is transparent and available, allowing fully informed decisions.
Long-Term Perspective: Economic decisions are based on a long-term view rather
than impulsive, short-term desires.
No Role for Emotion or Fairness: Decisions are considered purely rational, with no
influence from emotions or a sense of fairness
Inhoud
Lecture 1: Introduction & Course Set-Up...................................................................................2
Lecture 2: History of Economic Psychology..............................................................................3
Lecture 3: Expected Value and Utility Theory...........................................................................6
Lecture 4: Prospect Theory and Beyond.....................................................................................8
Lecture 5: Alternative Models of Choice..................................................................................11
Lecture 6: Emotion-Based Choice............................................................................................13
Lecture 7: Intertemporal Choice...............................................................................................14
Lecture 8: CANCLED..............................................................................................................16
Lecture 9: Fairness....................................................................................................................16
Lecture 10: Self-Interest and Social Preferences......................................................................17
Lecture 11: Maximization and Greed.......................................................................................18
Lecture 12: Unethical Behaviour..............................................................................................19
Lecture 13: Doing Research in Economic Psychology.............................................................21
Lecture 14: Exam Preparation...................................................................................................23
,Lecture 1: Introduction & Course Set-Up
Economic Psychology: studies how individuals affect the economy and how the economy
affects individuals.
Some Psychological Principles:
Many Choices are Automatic: people do not always know what they want and why
they do something, so there behaviour is not rational, but automatic.
People are Social Animals: it is not only about what you have, but also about what the
other has.
People respond to Mental Models: there is not always an objective truth, your actions
depend on your perspective
People are hard to mobilize: they are inert and do not optimize, it is hard to make
people do something.
Small changes can have big effects and these are not always easy to predict.
,Lecture 2: History of Economic Psychology
Rationality:
Normative/prescriptive theories: how should people make decisions?
Descriptive theories: how do people make decisions?
Small changes can have big effects, but they are not always easy to predict. Examples:
Rewards may be counterproductive (the cobra effect): seen in cases where incentives
encourage undesirable behaviour.
Punishment may be counterproductive: seen in studies on teenage behaviour and
unwanted pregnancies.
Adam Smith (1723-1790):
Rational Economic Man: individuals make decisions rationally, aiming to maximize
their own well-being.
Self-interest is good; Individuals acting in their self-interest unintentionally benefit
society.
The Invisible Hand: personal economic pursuits lead to positive societal outcomes.
For example, a butcher, brewer, or baker work to earn a living (not out of
benevolence) but indirectly helps to feed the community.
Empathy and moral feelings: humans naturally care about the well-being of others.
Conscience and Social Approval: people’s moral judgments are shaped by their social
relationships, with conscience arising from an internalized “impartial spectator.” This
idea implies that people’s actions are not purely self-interested but influenced by a
desire for social approval and a sense of shared humanity.
Blaise Pascal (1623-1662):
Expected Value = EV = p * X
The value of future gain should be directly proportional to the chance of getting it.
Daniel Bernoulli (1700-1782):
Expected Utility Theory: posits that people make decisions by assessing the
probability of outcomes.
St. Petersburg Paradox: people do not evaluate risky choices purely based on
expected monetary value but rather on the expected utility. He suggested that the
utility of money increases at a decreasing rate; this is known as diminishing marginal
utility. For instance, doubling one’s wealth does not double one’s happiness or
satisfaction.
Jeremy Bentham (1748-1832):
In order to maximize, we need to be able to quantify and compare the amount of
happiness/pleasure of possible acts.
Hedonic calculus: a systematic way to measure pleasure (hedons) and pain (dolors).
John Stuart Mill (1806-1873):
The Greatest Happiness Principle (Utility): actions are right in proportion as they
tend to promote happiness, wrong as they tend to produce the reverse of happiness.
, Economics Psychology
Assumptions about behaviour Research about behaviour
Aggregated behaviour Individual behaviour
Normative Theory Descriptive Theory
Deductive Inductive
Deviations from theory (anomalies) Separate theories for anomalies
George Katona (1901-1981):
Reintegrated psychology with economics through behavioural economics.
Herbert Simon:
Bounded rationality: humans are rational within limits.
Satisficing: a decision-making strategy where individuals choose an option that meets
a minimum acceptable threshold, rather than seeking the best possible outcome. In
other words, they "satisfy" and "suffice."
Study of cognitive processes leading to decisions
Daniel Kahneman:
Heuristics and biases in judgment: people frequently use mental shortcuts, or
heuristics, to make quick decisions when faced with complex problems or uncertain
outcomes. While heuristics can simplify decision-making, they often introduce
predictable biases.
Prospect theory: captures how people actually perceive and make risky choices,
particularly involving potential gains and losses. This is an alternative to expected
utility theory, which assumes that people evaluate outcomes solely based on their
overall utility.
Risk aversion for losses: people are generally risk-averse when it comes to gains
(preferring a certain gain over a larger but riskier one) but risk-seeking when it comes
to avoiding losses.
Richard H. Thaler:
Mental accounting: how individuals categorize, track, and evaluate money in
separate "mental accounts," often leading them to treat money differently based on its
origin or intended use.
Behavioural finance: applies psychological insights to understand anomalies in
financial markets
Fairness: people’s economic decisions are often guided by notions of fairness, which
can override strict self-interest, especially in social and financial contexts.
Self-control: the struggle people face between their immediate desires and long-term
goals, often leading to decisions that are not in their best interest.
Assumptions of Economic Theory:
Stable Preferences: Preferences are consistent over time and across different
situations, meaning people’s choices remain predictable.
Self-Interest: Individuals act out of self-interest, seeking to maximize their personal
benefit without necessarily considering others’ welfare.
Maximization (Greed): People aim to maximize their utility or profit in every
decision.
, No Cognitive Limitations: Economic theory assumes people have unlimited
cognitive abilities to process information and make complex calculations.
Unlimited Willpower: Individuals are expected to act according to their long-term
interests without succumbing to short-term temptations or self-control issues.
Complete Information: People are assumed to have access to all relevant
information, which is transparent and available, allowing fully informed decisions.
Long-Term Perspective: Economic decisions are based on a long-term view rather
than impulsive, short-term desires.
No Role for Emotion or Fairness: Decisions are considered purely rational, with no
influence from emotions or a sense of fairness
