Managerial Economics and Strategy, 2/e

14.5 Behavioral Economics and Uncertainty

In the expected utility model, as in the standard utility model, we assume that people make rational choices (Chapter 4). However, many individuals make choices that are inconsistent with the predictions of the expected utility model. Economists and psychologists explain some of these departures from the predictions of the expected utility model using behavioral economics: the use of insights from psychology and research on human cognition and emotional biases to augment the rational economic model in an attempt to better predict economic decision making. (We discussed other applications of behavioral economics in Chapters 4, 9, and 13.)

Biased Assessment of Probabilities

People often have mistaken beliefs ...