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15 October 2017

What is behavioural economics, which enabled Richard H. Thaler to win the 2017 Nobel Prize in Economics?

What is behavioural economics, which enabled Richard H. Thaler to win the 2017 Nobel Prize in Economics?

On Monday, 9 October, the 2017 Nobel Prize in Economics was awarded to American Richard H. Thaler, a professor at the University of Chicago, for his work on the psychological and social mechanisms involved in consumer and investor decision-making. His work studies how certain human characteristics and social preferences limit the rationality epitomised in the concept of homo economicus. Montpellier Business School professor Laurie Balbo, who for several years has taught a course on ‘Consumer behaviour and psychology’, sheds lights on this hot topic in economics.



What is Thaler’s work about ?

Richard H. Thaler is known for theorising the concept of ‘mental compatibility’, which explains the tendency of individuals to divide their money into different mental accounts based on a variety of subjective criteria, such as the money’s source or destination. His work shows that individuals assign different functions to each mental account by concentrating on the individual impacts of each decision, rather than on the overall effect.

 

Can you illustrate the concept of ‘mental accounting’ with an example ?

Yes, of course. You’re going to buy a €20 ticket for a show, and while you’re waiting in line, one of the two following things happens: 1) You lose the €20 you had in your pocket, or 2) You buy the ticket but lose it before getting inside. In these two cases, assuming you still have enough money, would you buy another ticket to the show?
If you act logically, your answer in both scenarios should be the same. The question is whether you’ll spend €20 more to see the show. However, because of the existence of different mental accounts, as a general rule, the decision isn’t the same for each scenario. In the first scenario (where you lose €20), most people don’t think of the lost €20 as part of their mental account for ‘entertainment’, because they still haven’t spent it or assigned it to that account. So they’re more likely to buy another €20 ticket to the show. By contrast, in the second scenario, the money had been spent and hence added to the mental account for entertainment. So they’re less likely to buy a new ticket.

 

Thaler is also known for his work on the ‘Nudge’, right ?
Yes. In fact, Thaler is one of the founding fathers of Nudge theory, which he put forth in an essay co-written in 2009 with Cass Sunstein, a professor of law at Harvard University. In this work, the authors advocate a form of ‘soft’ intervention, otherwise known as ‘liberal paternalism’: individuals remain free to choose but are encouraged to take one path instead of another by exposing them to a carefully studied and developed ‘architecture of choice’. For example, Amsterdam airport, in the Netherlands, got the idea to put stickers in the shape of flies at the bottom of urinals, in order to encourage men to use ‘good aim’ and reduce the costs of cleaning the toilets. It has to be said, projections fell by 80% !

The Nudge is based on the idea that if individuals aren’t able, because of their ‘cognitive biases’, to make the decisions that are best for them, their choice should be guided to help them.

 

How do you talk to MBS students about Thaler’s work ?

In all the courses I teach at MBS, I strive to convey to students the results of research papers either in ‘theoretical’ courses or in projects that the students work on. For example, in the PMGE M2 and MSc course in marketing entitled ‘Consumer Behaviour and Psychology’, students in previous years have taken part in the Nudge Challenge, organised by Nudge France, to encourage environmentally responsible behaviour. In 2015, for the ‘COP21’ edition of the challenge, an MBS team took home the award for the most liked video on Facebook! In 2016, with the theme ‘Paris 2024’, a group of MBS students were among the 16 challenge finalists who travelled to the capital to defend their idea in a pitch. This year, because of the timing of the challenge, we couldn’t participate, but all my courses address Nudge theory from various angles.

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