What is Behavioral Economics?

Legal Definition
Behavioral economics, along with the related sub-field behavioral finance, studies the effects of psychological, social, cognitive, and emotional factors on the economic decisions of individuals and institutions and the consequences for market prices, returns, and resource allocation, although not always that narrowly, but also more generally, of the impact of different kinds of behavior, in different environments of varying experimental values.

Risk tolerance is a crucial factor in personal financial decision making. Risk tolerance is defined as individuals willingness to engage in a financial activity whose outcome is uncertain.

Behavioral economics is primarily concerned with the bounds of rationality of economic agents. Behavioral models typically integrate insights from psychology, neuroscience and microeconomic theory; in so doing, these behavioral models cover a range of concepts, methods, and fields.

The study of behavioral economics includes how market decisions are made and the mechanisms that drive public choice. The use of the term "behavioral economics" in U.S. scholarly papers has increased in the past few years, as shown by a recent study.

There are three prevalent themes in behavioral finances:

  • Heuristics: People often make decisions based on approximate rules of thumb and not strict logic.
  • Framing: The collection of anecdotes and stereotypes that make up the mental emotional filters individuals rely on to understand and respond to events.
  • Market inefficiencies: These include mis-pricings and non-rational decision making.
-- Wikipedia
Legal Definition
The idea that psychological and behavioral issues affect the economy.