Behavioral Economics: Five Ways to Shift Your Habits
Have you ever purchased something because it was advertised as a once-in-a-lifetime deal, only to question yourself later on if you really needed that item? Don’t beat yourself up about it, your decision was simply your brain’s instinctive response to choice, and this can be explained through the advancements of the field of behavioral economics.
Behavioral economics is the study of psychology related to decision-making, what motivates
human behavior, and why we sometimes make illogical choices (Kenton, 2023).
When considering decision-making in terms of your finances, it’s important to understand behavioral economics so we can develop healthier spending habits and save money along the way. By understanding the fundamentals of how the brain seeks the quickest route possible to land at a decision, we can recognize the ways that advertisers use these qualities to make sales and we can shift our thinking in a beneficial way.
Principles of Behavioral Economics
Due to the breadth of the field of behavioral economics, I will only focus on a few of observable ways that the brain comes to a decision.
To begin, one example of the brain cutting corners are heuristics. Heuristics are mental shortcuts used to quickly reach conclusions about situations. This may sound beneficial, but heuristics such as the anchoring and adjustment approach can be used by brands to lead you toward making unnecessary purchases.
For example, the anchoring and adjustment heuristic is at play when a brand labels something at a specific value, or anchor, and adjusts the number until a value acceptable by the consumer is eventually reached (Chen, 2023). For instance, think about car dealerships. A used car salesman may start his quote with an anchor price way above the one he wants you to agree to. This way, the latter option seems fantastic in comparison, and you will undoubtedly seal the deal.
Heuristics like this one go hand-in-hand with another way brands take advantage of the brain’s tendency to use shortcuts. For example: Would you rather have $200 off of a new $1,000 laptop or 20% off of the same laptop? If you’d rather have the first option, you may be surprised to find out both options are the same!
But, because of the way the prices are framed, the first option seems much more appealing. Intuitively, this principle is called framing (Dolan, 2023). Framing sways the brain toward the choice that is more quickly perceived as a deal; most consumers won’t spend time calculating what 20% off of $1,000 is when they could already be off with a new laptop.
This is especially powerful when the potential purchase is perceived as a fleeting opportunity. The brain’s fear of missing out, or FOMO, is actually another reason why we make the choices we do.
Therefore, an additional principle of behavioral economics is loss aversion. Loss aversion is the characteristic of the brain that doesn’t like missing out or losing. Indeed, studies have shown that losses activate regions of the brain that are associated with negative emotions, such as the amygdala (Tom et al., 2007). Since people don’t typically want to feel the negative emotions associated with regret or missed opportunities, we may pressure ourselves into purchasing something just because it’ll only be available for a limited time (Kenton, 2023).
Essentially, the core components of behavioral economics describe how the brain takes shortcuts to bag the best deals.
Shifting Your Perspectives on Money
Of course, it is important to remember that these traits, heuristics, use of framing, and loss aversion, are natural behaviors; by understanding ourselves we may be able to shift our thinking alongside using the strategies below.
1. Understanding your money personality
An essential part of spending wisely is understanding your brain’s relationship to money in the first place (“Behavioral Economics and Your Money Habits,” 2021). For this, you may want to take the Klontz Money Script Inventory assessment. This assessment measures four core money beliefs —Money Status, Money Worship, Money Vigilance, and Money Avoidance— and knowing these can help you better create a spending plan. Listen to our Money Personalities & Financial Well-being podcast if you’d like to learn more about this and other assessments.
2. Goal setting
It may be easier to avoid spending impulsively if you’re in tune to your own money goals (“Behavioral Economics and Your Money Habits,” 2021). Consider creating a list of both small and large financial goals along with active steps you can take to achieve them. Visualizing the achievement of your goals in this manner may help curb making decisions that would cause setbacks in these important areas. To dive deeper into goal-setting, read our article, Setting Goals for Your Well-being.
3. The set-and-forget strategy
Once you’ve set goals to begin working toward, consider tweaking your bank account settings to automatically have your financial institution transfer a percentage of your paycheck from your checking to savings account (Fairbank). This way, the money left in your checking account can be allocated more flexibly, and it can be used to start creating a budgeting plan. Of course, you can dedicate a portion of your budget to fun purchases. This will ultimately curb your spending since there is only a fixed amount available to spend (“8 Ways to Prevent Impulse Buying”). However, keep in mind that not all financial institutions have the same saving or bill paying automation services, so you should contact them directly to discuss your options.
4. Cool-off policy
The next time you shop and consider buying something on sale, ask yourself if you would buy it if it wasn’t part of the sale. Additionally, before making purchases framed as short-lived deals, give yourself a cool-off period of about three days (Camerer, 1999). If you’re still considering making the purchase after that, it’s safe to say your brain isn’t rushing into a decision.
5. Mindfulness
Meditation and other mindfulness techniques are beneficial for emotional regulation, which holds a crucial role in decision making (Sun et al., 2015). This may make more sense in the context of decision fatigue. Decision fatigue occurs when peoples’ decision-making becomes impaired as a result of having recently made multiple decisions (Berg, 2021). This leads to impulsivity when making choices because of the present emotional exhaustion. So, taking a step back from the choice in front of you and engaging in mindfulness may help you consider the outcome of a decision more clearly.
For more information on practicing mindfulness, read our article on How to Support Wellness While Virtual, or watch our recorded webinar How Your Spending Can Change the World on YouTube.
Summary
Behavioral economics gives us insight into our decision-making, which is vital when recognizing our relationship to money. By becoming aware of these principles, we can create spending plans and build habits that allow us to achieve our financial goals.
Works Cited
Berg, S. (2021, November 19). What doctors wish patients knew about decision fatigue. American Medical Association (AMA). https://www.ama-assn.org/delivering-care/ public-health/what-doctors-wish-patients-knew-about-decision-fatigue.
Camerer, C. (1999, September 14). Behavioral economics: Reunifying Psychology and Economics. PNAS. https://www.pnas.org/doi/full/10.1073/pnas.96.19.10575
Chen, J. (2023, August 10). Heuristics. Investopedia. https://www.investopedia.com/terms/h/ heuristics.asp
Dolan, B. (2023, May 11). Framing effect: What It Is and Examples. Investopedia. https:// www.investopedia.com/framing-effect-7371439
Dr. Brad Klontz. (n.d.). https://www.bradklontz.com/
Fairbank, R. (2023, June 1). How can behavioral science help our spending habits? 5 questions for Wendy de la Rosa. American Psychological Association. https://www.apa.org/ monitor/2023/06/psychology-of-spending
Global Credit Union. (n.d.). 8 Ways to Prevent Impulse Buying. Global Credit Union. https:// www.globalcu.org/learn/smart-spending/prevent-impulse-buying/ #:~:text=Emotional%20shopping%2C%20being%20influenced%20or,fun%20while%20 protecting%20your%20budget.
Harvard University Employees Credit Union. (2021, June 4). Behavioral Economics and Your Money Habits. Harvard University Employees Credit Union. https://blog.huecu.org/ behavioral-economics
Kenton, W. (2023, January 16). What is Behavioral Economics? Theories, Goals, and Applications. Investopedia. https://www.investopedia.com/terms/b/ behavioraleconomics.asp#toc-principals-of-behavioral-economics
Sun, S., Yao, Z., Wei, J., & Yu, R. (2015). Calm and smart? A selective review of meditation effects on decision making. Frontiers in psychology, 6, 1059. https://doi.org/10.3389/ fpsyg.2015.01059
Tom, S. M., Trepel, C., Poldrack, R. A., & Fox, C. R. (2007, January 26). The neural basis of loss aversion in decision-making under risk - science. Science. https://www.science.org/ doi/10.1126/science.1134239
