Behavioral eco-lect 1: Introduction part 1
Behavioral Economics
= improves economic theory by enriching it with psychologically more realistic assumptions about human behavior.
aims to improve economic predictions and policy.
Challenge: Balance between improved realism and tractability of the models.
Related and overlapping fields
Economic psychology
Experimental economics
Behavioral economics
Decision theory
Models to predict behavior
A model/theory is normative if it states how people should make
decisions.
A model/theory is descriptive if it describes how people actually make decisions.
Economics used to study models and theories that were assumed to be both descriptively and normatively valid + make clear distinction between descriptive and normative
Utility and preferences
Economists assumes that people maximize utility
predict behavior we need to know people’s preferences
preferences are not directly observable,but we can observe choices, though.
Principle of revealed preference:
By observing choices we can find out people’s preferences. People’s preferences are revealed through their choices.
Utility:
Utility function u represents preferences ≽ if
x ≽ y ⟺ u(x) ≥ u(y)
Preferences
Strict preference: x ≻ y “x is better than y”
Indifference: x ~ y “x is as good as y”
Weak preference: x ≽ y “x is at least as good as y”
Strict preference and indifference are derived from the weak
preference relation ≽:
Definition of strict preference:
x ≻ y if and only if x ≽ y and it is not the case that y ≽ x
Definition of indifference:
x ~ y if and only if x ≽ y and y ≽ x