The Economics of Human Behavior

When most people think of economics, the first things that come to mind are supply and demand, businesses, taxes, and the global economy. While these are all critical subjects of study in the broader field of economics, they may initially appear somewhat bland.

What is less widely understood about economics is that it is primarily a set of tools that can be used to study virtually anything. Economists use these tools to create models of the world around us, which are then applied to predict the direct and indirect implications of anything from a new education policy to a change in public parking prices. While these models are incredibly useful, they assume that people will behave rationally. However, this assumption is fundamentally flawed, which makes it more difficult to accurately predict the outcome of a particular policy.

To solve this problem, a new subsection of economics was born: behavioral economics.  This field takes psychology and human nature into account when creating economic models, and as a result, makes them richer and more insightful.

Richard Thaler

In fact, the 2017 Nobel Memorial Prize in Economic Sciences was awarded to Richard Thaler, a behavioral economist at the University of Chicago. Thaler has been instrumental in defining this growing field, along with Daniel Kahneman (author of Thinking Fast and Slow) at Princeton University. Thaler is well known for co-authoring the book Nudge, which is about how people make decisions in their daily lives. Throughout his various pieces of work, Thaler argues that people are naturally irrational and that traditional, market-based economic models are incomplete without adjusting for personal biases.

Steven Levitt

Some economists who do not specialize in behavioral economics still incorporate behavioral assumptions into their models. Take Steven Levitt, economist at the University of Chicago and author of the book Freakonomics, for example. Levitt’s most famous studies have explored the economics of crack dealing, similarities between schoolteachers and sumo wrestlers, the correlation between a person’s name and socioeconomic success, and the connection between Roe v. Wade and declining crime rates in the 1990s.

While Levitt’s work covers a diverse range of topics, each of his studies take into consideration the power of incentives as a part of human behavior. People are driven to do things as a result of both positive and negative incentives. For instance, if I complete my homework for school, I will receive a good grade (and hopefully learn something). If I drive above the speed limit, I may get pulled over and have to pay a fine. By identifying the motivating factors in a particular study, Levitt was able to uncover why people make certain decisions and how those choices–whether conscious or unconscious–create rippling effects.

So don’t write off economics as a field so quickly. There’s much more to it than most of us have the time to learn in high school–and it pays well too (that would be a positive incentive).

The purely economic man is indeed close to being a social moron. Economic theory has been much preoccupied with this rational fool.

Richard Thaler, Misbehaving: The Making of Behavioral Economics

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