Issue: Behavioral Economics Behavioral Economics By: Victoria Finkle Pub. Date: May 9, 2016 Access Date: October 1, 2021 DOI: 10.1177/237455680210.n1 Source URL: http://businessresearcher.sagepub.com/sbr-1775-99729-2729522/20160509/behavioral-economics ©2021 SAGE Publishing, Inc. All Rights Reserved. ©2021 SAGE Publishing, Inc. All Rights Reserved. Will a better understanding of behavior improve economic models? Executive Summary No longer a fledgling challenge to traditional theories, behavioral economics is a growing field of study incorporating how human psychology affects economic decisions. Economists have long held that humans are perfectly rational actors who know how to maximize their own happiness. Supporters of behavioral economics say this is simplistic, and that humans are anything but rational. They argue that a greater understanding of human motivations and incentives can improve economic models and spur better policy in government and business. Behavioral economics, they say, can influence everything from what people eat for lunch to how much they save for retirement to how companies engage with their customers. But critics respond that behaviorial economics has limitations and that efforts to influence behavior, sometimes known as nudges, aren’t as powerful as the field’s cheerleaders hope. Among the questions under debate: Will behavioral economics replace traditional economics? Should business or government “nudge” people toward certain behaviors? Can behavioral economics make managers and firms more effective? Overview HSBC gives London train travelers a “nudge” to keep their New Year’s resolutions. Behavioral economics provides the basis for interventions, known as nudges, to improve endeavors such as corporate marketing. (Stuart C. Wilson/Getty Images for HSBC) When Bruce Palmer decided he wanted to lose weight, he made sure he had some skin in the game. He had recently heard about stickK, a company developed by Yale University behavioral economists Dean Karlan and Ian Ayers in 2008, which helps people stick to their goals. 1 Participants put up money as an incentive to stay on track, with the proceeds going to either a friend (or frenemy), a charity—or an “anti-charity” if they fail. Palmer lost 40 pounds in 2013 using stickK, and when surgery and some health complications forced him to stop his workouts temporarily, he returned to the company again in January 2016 to battle some of the weight that had returned. He chose the anti-charity option both times, knowing that if he didn’t make his weekly weight-loss targets, he’d be donating to groups he strongly disagrees with, including Americans United for Life, an anti-abortion group, and the National Rifle Association. “I think that’s the extra motivation—there’s no way I’m giving those people money,” says Palmer, 54, who owns an IT consulting business in New York City. Palmer was also careful to put enough money on the line that he would think twice before slacking off. He wagered $50 per week in 2013 that he would make his weekly weight-loss goal over the course of several months, and upped the stakes to $100 a week in 2016. “If it were $5, who cares?” he says. “I’ll have an extra piece of pie for $5. But I’m not going to have the extra piece for $100, so it’s a different situation.” StickK’s model makes use of a powerful concept in behavioral economics called the commitment device, which creates an incentive for people to stay on track with self- prescribed goals. Nobody likes losing money, especially to a charity that clashes with one’s personal or political beliefs. What behavioral economics does is to apply such psychological insights to human behavior to better inform how and why people make economic decisions. “Our consumer site is based on a fundamental finding in behavioral economics, which is that the stick is more powerful than the carrot,” says Jordan Goldberg, the company’s CEO, who says that people seek out the website for all kinds of efforts. He’s seen everything from the expected, such as losing weight or keeping up with homework, to the downright quirky, such as learning how to use chopsticks. And the available evidence seems to support the company’s approach. People are nearly twice as likely to succeed if they put money on the line—the success rate almost doubles from 46 percent to 85 percent—and they’re somewhat more likely to follow through when they use the anti-charity option, according to data provided by stickK. Nearly 89 percent of those who select an anti-charity keep their goals, while 81 percent of those who pick the charity option follow through on their objectives. For the anti-charity option, stickK allows users to choose between opposing groups on either side of contentious issues like abortion, gun control and gay marriage. With the charity option, the money goes to a cause chosen at random from a predefined list for those who fail, including places like the American Red Cross and Doctors Without Borders. “We don’t let people choose an individual charity, because we don’t want it to be too much of a silver lining for not succeeding,” says Goldberg. “We don’t want people saying, ‘Oh well, at least my money is going to a cause I really care about, therefore it’s not a big deal that I didn’t succeed at my goals.’ We’re happy that we’re raising money for charity, but at the end of the day, our mission, our reason for being, is to help people improve themselves and accomplish their goals.” Page 2 of 17 Behavioral Economics SAGE Business Researcher ©2021 SAGE Publishing, Inc. All Rights Reserved. Among those who opt to hand over their money to an individual—a “friend or foe”—79 percent succeed. The popularity of the company’s approach—users have created more than 307,000 commitments and put more than $25 million on the line since 2008—underscores how far behavioral economics has come. 2 The field has grown rapidly over the past several decades to become a powerful, even disruptive force. Higher Stakes Boost stickK Users’ Success Rates Success rate for stickK users, by type of stake Notes: Data represent commitment contracts from 2011 through June 2014. "Success rate" shows the number of reports of success submitted by users divided by the total number of commitment contracts. “Friend or foe” means an individual who receives money from the user if he or she fails to meet his or her goals. Source: stickK The Web startup stickK helps users meet their goals by requiring them to sign commitment contracts with optional monetary stakes. From the beginning of 2011 through June 2014, 85 percent of users with money at stake met their goals, while less than half of those with no stakes did. Those who signed “anti-charity” commitments, which require them to donate money to groups with whom they disagree if they fail, were more likely to meet goals (89 percent) than those who agreed to give money to favorable charities (81 percent) or individuals (79 percent) —“friends or foes”—if they failed. Percentage of stickK user commitments, by type of stake Page 3 of 17 Behavioral Economics SAGE Business Researcher ©2021 SAGE Publishing, Inc. All Rights Reserved. Notes: Data represent commitment contracts from 2011 through June 2014. "Success rate" shows the number of reports of success submitted by users divided by the total number of commitment contracts. “Friend or foe” means an individual who receives money from the user if he or she fails to meet his or her goals. Source: stickK The Web startup stickK helps users meet their goals by requiring them to sign commitment contracts with optional monetary stakes. From the beginning of 2011 through June 2014, 85 percent of users with money at stake met their goals, while less than half of those with no stakes did. Those who signed “anti-charity” commitments, which require them to donate money to groups with whom they disagree if they fail, were more likely to meet goals (89 percent) than those who agreed to give money to favorable charities (81 percent) or individuals (79 percent)—“friends or foes”—if they failed. Its aim is to improve the precision of some key assumptions about how people make decisions. Traditional economists build theories on the notion that humans are perfectly rational actors who know how to maximize their own happiness; behavioral economists consider how emotions and psychological programming can undermine such assumptions. These insights have profoundly affected business people, investors, consumers and policymakers alike, although critics warn that the field is not a replacement for traditional theories and can’t solve all economic issues. The study of behavioral economics began to take off in the late 1970s, when an increasing number of psychologists and economists began to question the accuracy of “homo economicus,” the economic man, who is fully rational, self-interested and exhibits complete self-control. 3 “If you look at economics textbooks, you will learn that homo economicus can think like Albert Einstein, store as much memory as IBM’s Big Blue [computer], and exercise the willpower of Mahatma Gandhi. Really. But the folks that we know are not like that,” wrote Richard H. Thaler and Cass Sunstein, two leading behavioral economics researchers, in their 2008 best-seller, “Nudge.” 4 “Real people have trouble with long division if they don’t have a calculator, sometimes forget their spouse’s birthday, and have a hangover on New Year’s Day. They are not homo economicus; they are homo sapiens.” Of course, even the most ardent defenders of economics have conceded that these generalizations were not intended as gospel—they’re used to simplify theoretical models.