Feature

In October, Princeton University psychologist Daniel Kahneman, PhD, was awarded the Nobel Memorial Prize in Economic Sciences for his groundbreaking work in applying psychological insights to economic theory, particularly in the areas of judgment and decision-making under uncertainty.

Kahneman is recognized for the pioneering research and theoretical work he conducted with colleague Amos Tversky, PhD, who died in 1996. While Tversky was acknowledged in the announcement, the Royal Swedish Academy of Sciences does not award prizes posthumously. "Certainly, we would have gotten this together," said Kahneman on the day of the announcement. "There is that shadow over the joy I feel."

The team's findings have countered some assumptions of traditional economic theory--that people make rational choices based on their self-interest--by showing that people frequently fail to fully analyze situations where they must make complex judgments. Instead, people often make decisions using rules of thumb rather than rational analysis, and they base those decisions on factors economists traditionally don't consider, such as fairness, past events and aversion to loss.

For example, they found that people's decisions can be swayed by how the situation is framed. When Kahneman and Tversky asked people to hypothetically decide what procedure to take to cure a disease, most preferred a procedure that saved 80 percent of people to one that killed 20 percent.

They developed an economic model--prospect theory--to better explain analogous economic behavior that's difficult to account for with traditional models, such as why there are large, seemingly unprovoked fluctuations in the stock market or why people drive to a distant store to save a few dollars on a small purchase, but not for the same discount on an expensive item. The theory now forms the basis for much of the applied research in economics.

"His work has inspired a new generation of researchers in economics and finance to enrich economic theory using insights from cognitive psychology into intrinsic human motivation," said the Royal Swedish Academy of Sciences' announcement. That's evidenced by the fact Kahneman and Tversky's seminal paper "Prospect theory: an analysis of decision under risk," has the highest citation count of all articles published in Econometrica, arguably the most prestigious economic journal.

Kahneman and Tversky hadn't planned on foraying into a new field--he calls their entry into behavioral economics "completely accident"--but after the Econometrica paper, they found themselves in a circle of innovative economists, including Richard Thaler, PhD, a leading behavioral economist now at the University of Chicago.

"We are all delighted that one of our own won a Nobel Prize--not only because he well deserves it but also because it reminds the world that psychology is science," says APA Executive Director for Science Kurt Salzinger, PhD. "Now if we could have a Nobel that is labeled 'Psychology' next year."

Kahneman will split the prize, worth about $1 million, with experimental economist Vernon L. Smith, PhD.