Behavioral Economics: Crash Course Econ 27

Published on Mar 12, 2016

Why do people buy the stuff they buy? In classical economics, most models assume that consumers behave rationally. As you’ve probably noticed in your real life, in case after case, people don’t actually make rational decisions. There can be emotional or social reasons for all this irrationality, and behavioral economics tries to address this. We’ll talk about risk, nudge theory, prices and perception, and the ultimatum game. So, let’s get irrational, in a logical way, of course.

Behavioral economics

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Behavioral economics

0:00hi this is crash course economics I’m Adrian help and I’m Jacob Clifford one
0:04economist make their models they generally assume that people are
0:07rational and predictable but when we look at actual human beings it turns out
0:11that people are impulsive short-sighted and a lot of times just plain irrational
0:16balloons today were talking about behavioral economics and how people
0:20actually make decisions
0:28behavioral economics is a subfield of economics that focuses on the
0:34psychological social and emotional factors that influence decision-making
0:38that’s not necessarily new fact our old buddy Adam Smith discussed in the theory
0:42of moral sentiments in 1759 but generations of economist chose to ignore
0:46me irrational elements of decision-making since it makes it harder
0:49to predict human behavior but in the last few decades behavioral economics
0:52has made a comeback
0:54several nobel prizes have been awarded to researchers that blood economics and
0:57psychology and behavioral economics has been applied to more and more feel like
1:01marketing finance political science and public policy not important to mention
1:05that irrational human behavior doesn’t negate everything you learned here at
1:08crash course economics just adds another layer of complexity which is exactly let
1:12it crash course in most cases people are rational when the price falls for a
1:16product people have a tendency to buy more that products with a lot of manhole
1:20true but economist also accept that there is bounded rationality limits on
1:24information time abilities might prevent people from seeking out the best
1:28possible outcome for example if the price of ice cream is really low
1:31consumers might not buy more in fact they might buy less if they think that
1:36that low price means that ice cream tastes horrible now if that happens then
1:39la demande doesn’t hold true which creates a serious problem in classical
1:43economics I mean it’s the law of demand you can’t have a situation to break the
1:46law and still caught a lot right that doesn’t happen to other disciplines like
1:49physics accepted that the newtonian laws of physics like gravity hold true most
1:54the time but they break down at the quantum level they explain the orbits of
1:58planets but they have a hard time explaining the orbital electrons and
2:01it’s the same in economics classical economic dearie explain the big picture
2:05stuff pretty well but there’s still a lot of things about individual
2:08decision-making that we just don’t fully understand it and our ice cream example
2:11one of the problems is lack of information
2:14classical economics assumes that consumers have perfect information when
2:18making choices that is they know or at least can quickly access information
2:22about prices and quality but in reality they often don’t sure the consumer can
2:27ask around or call their friends to see if they’ve tried that type of ice cream
2:30but they’re probably not going to do that in this situation consumers may act
2:34on the limited information
2:36have a suspiciously low price which means either the ice cream is a great
2:41deal or it tastes like managed just don’t know
2:44prices do send a lot of signals and there’s even science on how prices
2:48change perception study in California analyzed the brains of people taste
2:52testing a variety of red wines the researchers gave participants fake
2:56prices and scanned their brains to determine the level of enjoyment the
3:01results were surprising when they thought the price was higher than
3:04actually like the one more this held true even when the subjects were given
3:07the exact same wine but we’re told it was a different higher-priced won the
3:12researchers said contrary to the basic assumptions of economics marketing
3:17actions can successfully effect experience pleasantness by manipulating
3:22non intrinsic attributes of goods so once you’ve got a palatable Pinot Noir
3:26you might be able to raise the price and actually raised the demand all you have
3:31to do is change perceptions the idea that perceptions and passions influence
3:36our actions also applies in finance many economist used to believe that assets
3:41like stocks and real estate would stay at or near their real value because cold
3:46calculating investors with by undervalued assets and sell overvalued
3:51assets but that doesn’t explain bubbles in real life
3:55investors aren’t always cold and calculating they can get worked up and
3:58their rationale sometimes this helps explain bubbles from the Dutch tulip
4:02mania of the 17th century to the 2008 financial crisis investors became
4:07irrationally exuberant and we’re driven not by logic but by what economist John
4:12Maynard Keynes once called animal spirit behavioral economics doesn’t blow up
4:17traditional economic theory it just seeks to understand when and why people
4:21behave differently than economic models would suggest let’s go to the thoughtful
4:26one of the most popular experiment to behavioral economics is called the
4:29ultimatum game in this experiment 2 players decide how to share specific sum
4:33of money what’s $100 the first player is given all the money that is asked to
4:37propose a way of splitting it with the second player not the second player
4:40accept the deal both players get to keep the money but the second player refuses
4:45nobody gets keep the money when the first player offers to split the money
4:485050 the second player almost always accepts but what happens when the first
4:52player offers an equal split like a t20 would you accept that offer what turns
4:56out the less equal offers are often rejected that doesn’t seem surprising
4:59that directly contradicts classical economic theory it’s irrational the
5:03rational choice would be for the second player to accept any offer only $1 $1
5:08better than nothing but human behaviour not motivated solely by game it’s also
5:13shape I complex ideas like fairness and justice and even prevent the ultimatum
5:17game shows that people aren’t always as predictable as many economist like to
5:20suggest if people were entirely rational they would consistently make the same
5:24decision given identical options but sometimes people’s preferences are
5:27dependent on how the options presented psychologists call this type of
5:30cognitive bias the friends we would rather eat beef that 75% fat-free or 25%
5:36that would you rather enter a raffle the claims one out of every thousand players
5:39is a winner or a raft the point out that there’s gonna be 909 losers would you
5:44support a lot it’s called the improve our schools act on its name to raise our
5:47taxes act each of these scenarios can be trained in ways that influence your
5:51decision classical economics argues that framing should have relatively little
5:54effect on decision-making because most people are rational intelligent in the
5:58real world people can be pretty irrational thanks so businesses have
6:02known about the psychology of decision making for a long time for example a gym
6:07might break down its membership fee and advertised it only cost a dollar a day
6:10which seems way more affordable than 365 dollars a year and a TV priced at $4.99
6:1799 seems like a better deal than one priced at $500 this is called
6:21psychological pricing it can make people feel like

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