BY THE END OF THIS CHAPTER YOU SHOULD BE ABLE TO:
- Understand and describe the nature, origins and scope of economic psychology.
- Discuss the relationship between economic psychology and behavioural economics, and their perceived similarities and differences.
- Give examples of a range of studies and findings from recent economic psychology research.
1.1 INTRODUCTION
Economic psychology has important contributions to make in a changing economic world in which individuals and households are expected to take more responsibility for their own economic well-being. Consider first that the international financial crisis of 2007â2008, and the subsequent Great Recession, were not predicted by mainstream economics. One reason, argued Paul Krugman, was that most economists had âturned a blind eye to the limits of human rationalityâ (2009, p. 1). Economic psychology has an important contribution, then, to provide economics with a realistic and insightful understanding of human rationality in the economic domain. This extends to other psychological factors that may play a role in financial crises; our emotional tendencies, such as fears in the face of financial risk, and our social nature, including our tendency to compare ourselves with and to follow others (Gärling, Kirchler, Lewis, & Van Raaij, 2009). Consider, second, that both household and personal economic decision-making are becoming increasingly complex and have significant consequences for our quality of life and psychological well-being. Decisions about saving for a rainy day or for retirement, borrowing to improve todayâs lifestyle, how to manage tax affairs or financial risks, how to make sense of advertisements for loans, savings and insurance, are all issues that economic psychology can contribute towards understanding and improving. Consider finally, that peopleâs thoughts and feelings about material possessions, money, prices, the economy and inflation are at the core of economic mental life, and that the psychology of such things is fascinating and worthy of study for its own sake.
Our description of economic psychology as the science of economic mental life and behaviour reflects a contemporary approach to psychology, conferring equal status on the twin endeavours of understanding mental life and understanding behaviour. As is well known, the history of psychology has been characterized as a series of paradigm shifts, or fundamental changes in perspective. For example, the early twentieth century saw a shift from introspectionismâs reliance on self-reports of mental activity to behaviourism, which eschewed such methods and concepts to focus on observable behaviour. This held sway until what became known as the cognitive revolution from the mid-1950s. Once again, evidence from self-reports of mental experience was deemed admissible and mental elements were accepted as the nuts and bolts of cognitive theory. One of the leading players in this development was George Miller (1962a) through his work, for example, on our capacity to process information. He wrote an inspiring introductory text which signalled psychologyâs cognitive shift. He called it Psychology: The Science of Mental Life (Miller, 1962b), from which our description of economic psychology is derived. It should be noted that although our definition also encompasses behaviour, it signals a distinctive orientation from the burgeoning, related field of behavioural economics which primarily focuses on behavioural prediction.
Box 1.1 summarizes further defining characteristics of economic psychology. First, it is a branch of applied psychology, recognized as such by the International Association of Applied Psychology, in which both theory and application are central. This means that economic psychologists take seriously the responsibility of providing the basis for research-informed policies to support peopleâs economic well-being and the health of the economy. Second, it identifies an important characteristic of economic psychology famously broadcast in the influential textbook, The Individual in the Economy: A Survey of Economic Psychology, by Lea, Tarpy, and Webley (1987). It is the study of âhow individuals affect the economy and how the economy affects individualsâ (p. 2). Consequently, it is an interdisciplinary endeavour, with increasingly fruitful collaborations with mainstream and behavioural economics and other biological and social sciences.
Box 1.1 Defining characteristics of economic psychology
- The science of economic mental life and behaviour
- A branch of applied psychology
- The study of âhow individuals affect the economy and how the economy affects individualsâ (Lea, Tarpy, & Webley, 1987, p. 2)
- An interdisciplinary field of study
In Section 1.2, we describe the emergence of economic psychology as a discipline, including key developments in theories of economic decision-making, and we consider the relationship between behavioural economics and economic psychology. Following this, our introduction to the field reflects on the topics discussed in each part of the book, beginning with an outline of the main research methods that have been used (Part 2 of the book). We next discuss the various aspects of economic mental representations considered in Part 3. We then move on to aspects of personal and household financial decision-making and economic activity (covered in Parts 4 and 5). Finally, we introduce some of the economic-psychological issues related to life-span development and to society that are covered in Parts 6 and 7.1
1.2 THE EMERGENCE OF THE DISCIPLINE
1.2.1 From Adam Smith to George Katona
The origins of economic psychology can be traced to Greek philosophers and, more recently, to seventeenth-century economists who reflected on psychological matters, notably Adam Smith. Twenty years before writing An Inquiry into the Nature and Causes of the Wealth of Nations in 1776, Smith had published The Theory of Moral Sentiments, considered by some to be the starting point for economic psychology (e.g., Descouvières, 1998). He explored the concept of self-love and the importance of being able to take othersâ roles, as in the social interactions necessary for trading. In addition, he claimed that happiness and well-being were derived from the happiness and well-being of others, and explored several psychological concepts, including sympathy, emotions, and virtues in general (Barracho, 2001; Kirchler & Hoelzl, 2003; Wärneryd, 2005a).
Besides Adam Smith, other economists of the eighteenth and nineteenth centuries wrote about psychological aspects of economic phenomena. Jeremy Bentham (1748â1832) developed Smithâs concept of self-love and characterized utility as the permanent hedonistic pursu...