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What are 'Neuroeconomics'?

Neuroeconomics attempts to link economics, psychology, and neuroscience to glean a better understanding of economic decision making. The fundamentals of economic theory assumed that the intricacies of the human brain would never be discovered. However, with advances in technology, neuroscience has produced methods for the analysis of brain activity. 

BREAKING DOWN 'Neuroeconomics'

Fundamental to the study of neuroeconomics is a need to fill certain gaps in conventional economic theories. Economic decision making, in the traditional sense, suggests that investors will objectively evaluate risk and react in the most rational manner. Behavioral economics has shown that human behavior does not always follow economic theory or optimize utility. Insight into the mechanisms driving individuals can help to better predict the future of economies. 

For example, history has shown the perpetuation of asset bubbles and, subsequently, financial crises. Neuroeconomics provides insight into why humans do not act to optimize utility (and behave irrationally) and avoid financial difficulty. Typically, emotions have a  profound effect on individuals' decision making. The brain often reacts more to losses than to gains, which can stimulate irrational behavior. While emotional responses are not always suboptimal, they are rarely consistent with the concept of rationality. As neuroeconomics becomes more developed, the field of study will improve understanding of the mechanisms influencing decision making. 

The Four Areas of Study for Neuroeconomics

Neuroeconomics can be broken down into four central areas of study; intertemporal choice, game theory, and decision making under risk and uncertainty. Each study identifies how humans balance their emotions and utility while facing risk and uncertainty.

Intertemporal choice is the process by which people decide what and how much to do at various times; choices made at one time influence the choices available at other times.

Game theory applies mathematical models of conflict and cooperation between rational, intelligent decision makers.

Decision making under risk and uncertainty describes the difficult position of managers who much incorporate risk into their strategy decisions, which requires information on the probability distribution of outcomes such as the expected value (or mean) of the distribution, the variance and standard deviation, and coefficient of variation.

Applications for Neuroeconomics

According to the World Economic Forum, in 2016, Professor Platt Michael Platt from the Wharton University of Pennsylvania spoke at Davos and explained that researchers at Stanford University found that they could predict the effectiveness of internet microcredit campaigns by scanning the brains of participants in a laboratory setting. Platt also suggested that the approach could be used in marketing to influence consumer behavior, for example, to encourage better choices with respect to food or health-related activities.

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