Economists + Madison Avenue = Watch Your Wallet

The headline, "Is Alfred Marshall Passe" may put you to sleep, but this Harvard economist, Sendhil Mullainathan, will soon waken you with his interesting observations. For example:

One of his most provocative papers, just submitted for publication, suggests that tiny psychological effects can have potentially enormous impact on demand, more of an impact than price. In 2003 he and several coauthors worked with a bank in South Africa that sent out letters offering short-term loans. They varied the interest rate and also varied a number of cues designed to trigger psychological responses, such as a smiling photo in a corner of the letter and tables that provided more--or less--information and choice.

The practical takeaway is that an insurance company can probably sell more auto policies by featuring Reese Witherspoon in its brochures than by slashing margins and sending out letters that scream: "Unprecedented Low Rates!"

I hope my auto policy comes with a picture of Warren Buffet. The economist mentioned is a so-called behavioral economist. For further reading, check out Wikipedia on behavioral finance.  TAG:economics