Behavioral Economics Uncovers
Your Clients Blind Spots
Behavioral economics is a relatively new and increasingly relevant science that combines the disciplines of both psychology and economics to illustrate how, and why, people make financial decisions.
Understanding the elements of behavioral economics can help field reps better understand the decisions their clients make. Many studies have been done on the subject, but most recently a study conducted by Northwestern Mutual Life Insurance Co., Milwaukee, Wis., has shed some light on key areas agents should focus on. The study targeted a specific demographicfinancial decision-makers between ages 22 and 69, with a bachelors degree or higher and a combined household income of $75,000 or above. The study also polled professionals (doctors, lawyers and CPAs), business owners, corporate executives, and the affluent.
The results showed that those falling into the studys demographic were not as irrational in making financial decisions as the general public. More interesting, though, were the “blind spots” that regularly handicapped the group when reacting to real-life financial situations.
Those 3 key “blind spots” were:
? Loss aversionIn the survey, respondents were divided into 2 groups. The first group was asked to choose between a 100% chance of gaining $240 vs. a 25% chance to gain $1,000 coupled with a 75% chance to gain nothing. More than three-fourths of the group went for the sure gain.
The second groups choices were: a sure loss of $240 vs. a 25% chance to lose $1,000 coupled with a 75% chance to lose nothing. More than two-thirds of this group opted for the latter, the chance to lose nothing.
The lesson: People will avoid a sure loss at all costs because, to them, losses loom larger than gains, even if its not true.
? FramingIn the questions related to framing, 2 different groups of people were asked the same question in 2 ways.
Roughly 50% said they could not when asked, “Could you comfortably save 20% of your households income at this point in your life?” But, more than 7 in 10 said they could when asked “Could you comfortably live on 80% of your household income today?”
The lesson: Framing often depends on a persons reference point and what is most likely to influence them.
? Mental AccountingThe questions related to mental accounting asked respondents to judge how they would spend their money in 2 apparently different retail situations.
Would they buy a much-needed alarm clock from a local store for $18, or from a store 20 minutes away selling the same clock for $10? And, would they buy a new television from a local store for $250, or from a store 20 minutes away for $242? In both instances, driving 20 minutes would save $8.
Two-thirds of the respondents would drive 20 minutes to save money on the clock, but almost 75% would not drive the same 20 minutes to save the same amount on a new TV set.