Free Essay: Behavioral Economics
Based on the information in the video, behavioral economics is one of the branches of economics which aims to identify key patterns of consumer behavior and describe irrationality behind it. On the one hand, it might appear that irrational decision-making is not possible because it contradicts classical economics. On the other hand, consumer behavior is based on occasional choices of individuals, which are sometimes hard to understand. Apart from that, there are theories, factors, and dependencies that lead to irrational consumer behavior, and many of them are rooted in psychology.
Behavioral economics is one of the branches of economics. Its key feature is that it aims to identify the factors that force people to make decisions, which are not necessarily rational. The difference between behavioral and classical economics is that the latter focuses on a broader range of economic agents at a larger scale, while the former emphasizes individuals and their behavior in the market. Recent findings of behavioral economics show that human psychology is the root cause for such decisions. The most important contribution of this branch, in comparison with classical economics, is the focus on human factor. People do not always have access to complete information about a product, or they might not want to get such information. Besides, such economic agents as producers and intermediate sellers might take advantage of the psychological factors that force people to make irrational decisions and achieve their goals by making people buy goods and services. Therefore, the findings of behavioral economics are broadly utilized by specialists in marketing and advertising.
As it has been stated already, it is specialists in marketing and advertising who take the greatest advantage of the findings of behavioral economics. The most commonly used practice, with the consideration of these findings, is alternation of prices. Naturally, a consumer seeks for a lower price due to the need to save more money and get more satisfaction. Therefore, if the price is $499.99 instead of $500, it is more likely that a consumer will purchase the product because the price is more appealing. At the same time, setting a lower price cannot always guarantee that people will be interested in the good. A too small number on the price tag might cause suspicion, although consumers do not always have access to complete information, as it is defined in classical economics, or they do not want to access it. As a result, lower pricing might be considered as an indicator of poor quality, and the product will not be purchased. Additionally, the psychological consideration that a higher price means higher quality is also used in marketing. It is identified that people get more satisfaction when they consume products that cost more, and, for this reason, premium brands put rounded prices on their products.
The popular experiment "the Ultimatum Game" interprets that human behavior contradicts the laws of classic economics. Specifically, classic economics suggests that a consumer should accept any offer that the other economic agents make. However, in reality, they often refuse because some offers might not appear appealing to them. The reason for such contradiction is that classical economics does not take into consideration that the decisions that consumers make may be driven by various circumstances and feelings, such as unfairness, revenge, and injustice. At the same time, the experiment shows that it is often the case when consumer decisions depend on the way the options are presented. Overall, it may be concluded from this experiment that behavioral economics emphasizes psychological aspects of human behavior, while classical economics interprets various economic processes from a broader perspective and does not consider various factors that force people to make decisions impossible under the general model.
The findings of behavioral economics are widely used in marketing to force consumers to purchase goods, and several strategies are used for this purpose. First of all, prices can be slightly lowered, for instance by $0.01. In fact, the price remains the same: instead of $500, they put $499.99. When a consumer sees such a price, he or she perceives it as a lower one. Secondly, the framing effect is used to influence consumer decisions. The fundamental principle of this effect is that adverse facts or wordings are substituted with those that have a positive meaning, while the meaning itself does not change. For example, instead of "25% fat meat", specialists in marketing put "75% fat-free meat". As a result, people are more likely to buy such products. Finally, higher prices are also used to persuade consumers to purchase goods because they are usually perceived as concrete indicators that a product is luxurious and of high quality.
Another concept that has been identified by behavioral economics is the nudge theory. This theory suggests that nudges may be used to persuade people to behave in a different way without affecting the choices they make. However, it is not necessary to use only a nudge. Instead, any highly popular item can be used as long as people are ready to sacrifice having something different for the sake of consuming a certain popular good. The key point of the nudge theory is that, by placing such product within the reach of consumers, it is possible to create a situation where people are ready to refuse other products, which might be more beneficial for them, in favor of the nudge item. At the same time, placement of products in stores is important too since they have to be placed in such a way that consumers notice them within the shortest time possible. Also, the theory is of particular importance for governmental bodies because it might be used to fight obesity among children by applying it in schools and persuading students to choose healthy food instead, without making changes to the menu.
The last concept to discuss is loss aversion. It describes the situation where people are willing to take a smaller risk even if the award for the greater risk may bring greater satisfaction. Psychology explains that loss is more painful to a person than the pleasure derived from gain. As a result of this dependency, consumers are more likely to make a choice that will ensure greater safety, even though it might not be logical from the point of view of classical economics. For instance, a person is shown two envelopes, an empty one and the one with a hundred dollar bill inside, and offered the opportunity to choose between the two options or getting fifty dollars immediately. The vast majority prefer the second option. The concept of loss aversion is beneficial and effective because it allows influencing consumer choices more effectively than by using motivation or persuasion.
Behavioral economics identifies the reasons that cause consumers to make decisions that do not fit the principles of classical economics and explains the factors that result in irrational decisions. Overall, the information discussed in the video is important and relevant to the modern economic environment. Besides, the covered concepts are not difficult to understand and relate to everyday decisions that consumers make. At the same time, it is stated in the video that the findings of behavioral economics are often used in marketing and advertising to persuade or force people to make certain decisions by influencing them.
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