Loading the player...

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.

  1. Rational Behavior

    A decision-making process that is based on making choices that ...
  2. Vernon L. Smith

    An American economist who won the Nobel Prize in Economics in ...
  3. Rational Expectations Theory

    The rational expectations theory posits that individuals make ...
  4. Homo Economicus

    A term that describes the rational human being assumed by some ...
  5. Behavioral Finance

    A field of finance that proposes psychology-based theories to ...
  6. Positive Economics

    Positive economics is the study of economics based on objective ...
Related Articles
  1. Investing

    Are Your Emotions Getting the Best of Your Investments?

    Behavioral finance studies the emotional side of investing and its effects on investor returns.
  2. Investing

    Behavioral Finance

    Learn the science behind irrational decision making and how you can avoid it.
  3. Investing

    Don't Let Emotions Derail Investment Decisions

    Understanding behavioral finance can help you make better investing decisions.
  4. Investing

    Seven Controversial Investing Theories

    Find out information about seven controversial investing theories that attempt to explain and influence the market as well as the actions of investors.
  5. Investing

    Protect Yourself Against Powerful Financial Losses

    Financial losses are both emotionally and mathematically more powerful than gains.
  6. Investing

    Science Says Investing and Cocaine Look Same to Brain

    A scientific study says the brain responds to watching a risky financial bet pay off much like it does with an addict's use of cocaine. Here's some investing advice: don't blow it.
  7. Investing

    Taking The Sting Out Of Investment Loss

    Get a hold of yourself! Take losses in stride and learn to invest dispassionately.
  1. How can I tell if I'm an emotional investor?

    Successful investors possess the important trait of emotional stability, which means that they base their investment decisions ... Read Answer >>
  2. What is the difference between accounting and economics?

    Discover the difference between accounting and economics by comparing and contrasting the financial discipline of accounting ... Read Answer >>
  3. What are some of the limitations and drawbacks of economics as a field?

    Find out why the field of economics is full of controversy. Policy decisions, political campaigns and personal finances are ... Read Answer >>
  4. What is human capital and how is it used?

    Learn about the concept of human capital, how it is developed and why it is important for businesses to protect their human ... Read Answer >>
  5. Does the law of demand in economics describe real human behavior?

    Learn how the law of demand can be used to describe human nature, even if it cannot always produce accurate predictions about ... Read Answer >>
  6. How do managers measure human capital?

    Learn what human capital is, how managers measure it and how managers measure human capital's return on investment to gauge ... Read Answer >>
Hot Definitions
  1. Internal Rate of Return - IRR

    Internal Rate of Return (IRR) is a metric used in capital budgeting to estimate the profitability of potential investments.
  2. Limit Order

    An order placed with a brokerage to buy or sell a set number of shares at a specified price or better.
  3. Current Ratio

    The current ratio is a liquidity ratio that measures a company's ability to pay short-term and long-term obligations.
  4. Return on Investment (ROI)

    Return on Investment (ROI) is a performance measure used to evaluate the efficiency of an investment or compare the efficiency ...
  5. Interest Coverage Ratio

    The interest coverage ratio is a debt ratio and profitability ratio used to determine how easily a company can pay interest ...
  6. Cash Conversion Cycle - CCC

    Cash conversion cycle (CCC) is a metric that expresses the length of time, in days, that it takes for a company to convert ...
Trading Center