By Sterling Xie
Behavioral economics has expanded to support the idea that economics is based on human interactions in addition to the complex mathematics that economics is often made out to be.
Why Trust Impacts the Economy?
Economy as a basic concept is built on trust. If a farmer is producing corn and the grocery store (the buyer) doesn’t trust that the corn is high-quality, there most likely wouldn’t be a financial transaction. This affects the general economy as it means there would not be economic activity from that certain pair. Behavior and psychology, as a result, are critical indicators of economics as a whole. Interestingly, consumer psychology needs to be incorporated into more modern economics models and functions as psychology can generalize the way consumers make transactions on a more macro level. Trust is a complex issue as it has many degrees of severity. If the farmer can prove that his corn is of high-standard relatively easily, the grocery store would likely commit and purchase using contracts as a sign of binding trust. On the other hand, industries like pharmaceutical companies often can never gain the trust of the consumer simply because of the risk and complexity of the products in such industries.
The Rationality of Trust
Trust is a representative factor of the rationality of common consumers. This is generally true about humans. Even historically, a Northwestern study finds that the Quakers were dominant in the business industry because their religion was an unwritten contract that inspired trust. As such, they were critical for the British economy on a macro level. This same concept of trust has clear applications in the consumer market today. Established, larger businesses tend to be more profitable and control more of the market because people have purchased from them before and therefore trust the corporations with an unwritten contract, lending to brand loyalty.
Northwestern’s behavioral economics studies lend to an important conclusion—businesses must balance a level of “cold-heartedness” with a level of transparency. The transparency demonstrates that the business or seller is committed to consumer satisfaction with openness to share stories of past transactions and customer interactions while the “cold-heartedness” demonstrates that a business owner is not overly emotional and is preparing for the future. This is true because the consumer would be rational to trust a seller that has a record of being a good seller.
As the American economy develops, the service sector is exponentially increasing with the filling goods sector. For example, companies like Lyft, Airbnb, and others require consumers and businesses alike to trust a third-party contractor that is often not completely attached to the company to provide adequate services. As a result, these service companies engender trust in their brand through contracts and terms of services that encourage high-quality services at the risk of removal from their platforms. The economy for these “trust goods” is critical to the expansion of our economy and will likely soon take over the market as the US becomes more and more developed.
The economy has evolved rapidly to include behavior as an analysis of economic trends. As we begin to have more accurate psychological conclusions, we will also have a better idea of why psychology is so intrinsically connected to the economy.