Colin F. Camerer
1200 E California Blvd
MC 228-77
Pasadena, CA 91125
(626) 395-4054

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Behavioral economics applies psychological principles to economic decisions, in an effort to "reunify" these social sciences. "Literary" economists like Adam Smith, Marshall and Keynes had rich discussions of how people think in behave, but the nuances of these discussions were put aside when the rational choice paradigm emerged. Complete preferences (i.e., utility maximization), equilibrium, perfect competition, and (later) Bayesian updating and rational expectations are undoubtedly useful simplifying assumptions. But most economic models which rest on these foundations can be improved by using psychological regularity to suggest different assumptions which better capture how people actually think and behave, and prove even more useful.

For many years economists found assumptions of perfect competition and perfect information to be good approximations; but both idealized cases were eventually replaced by more complicated, and more realistic, models of imperfect competition (e.g., monopolistic competition, and game-theoretic models of corporate behavior), and imperfect information (e.g., signaling). Replacing the useful idealized assumption of perfect rationality with more realistic models, consistent with what is known from psychology, neuroscience, and sociology, is the next natural step in improving economics.

To achieve this goal, "behavioral economics" uses evidence from psychological studies of limits on computational ability and willpower, and the influence of emotions like envy, guilt, and moral obligation on economic activity. Behavioral economists study precise mathematical models of how willpower and computational limits and emotions work, and use these models to make predictions about behavior both in the laboratory and in field data, and to suggest governmental policies which make people better off and suggest better ways of organizing exchange and corporate structures ("economic institutions").

George Loewenstein, Mathew Rabin and I recently edited a book of seminal recent readings, Advances in Behavioral Economics (Princeton Press, 2003). Our introductory chapter to the book is a good place to start learning about behavioral economics ("Behavioral economics: Past, present, future").

An article submitted to Journal of Economic Perspectives in May 2004 about how Adam Smith (of "invisible hand" fame) expressed many ideas which reappeared recently in behavioral economics.

Division of the Humanities and Social Sciences
Mail Code 228-77
California Institute of Technology
Pasadena, California 91125

Office: Room 101
Phone: (626) 395-4054
Fax: (626) 432-1726
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