The way we behave financially during a crisis – like the current COVID-19 pandemic – is largely based on our emotion state. In order the be fiscally responsible, there is a need to understand and practice Behavioral Economics along with Emotional Intelligence.
Our financial decisions can be determined by our emotions at times like this. Bad decisions can easily lead to economic ruin if emotions are not keep under control. Behavioral economics employs principles and guidelines from the field of psychology, examining the behavior of people in various financial situations. Emotional intelligence is a set of emotional and social skills that help you understand and effectively manage stress tolerance, problem solving, reality testing and impulse control. These are characteristics that are imperative in a financial crisis as has evolved because of the COVID-19 pandemic.
The findings from behavioral economics and emotional intelligence can save your financial life and that of your progeny. In his book, Thinking Fast and Slow, Nobel Memorial Prize in Economic Sciences laureate and Psychologist Daniel Kahneman, identifies two different systems at work in our brains. He simplistically calls them system-one and system-two. System-one “is the brain’s fast, automatic, intuitive approach.” System-two is “the mind’s slower, analytical mode, where reason dominates.” It has been estimated that the average adult makes about 35,000 remotely conscious decisions each day. That averages out to about one decision every two seconds. Research shows that system-one handles the overwhelming majority of these decisions using instinct, preconceived notions, mental shortcuts and possibly even past empirical knowledge. If you’re deciding which toothbrush from the family set to use in the morning, its probably system-one that is in effect. However, if you are making weighty financial decisions like how to spend a finite amount of money, buying stocks, short sell, etc., you best ensure system-two kicks in.
We are all addicted to financial survival. Everyone wants to be in control of their finances in order to have at least the basic necessities – food, lodging and clothing. If we do not have money, we cannot rightly afford the basics. This fact can make us a bit neurotic in times of financial uncertainty. Gaining money can invoke a change in brain chemistry similar to the mood altering effects of alcohol or drugs. In some instances, our relationship with money – especially when gained – can initiate the release of brain and body chemicals like dopamine that produce a “high” reminiscent to that of the chemical high from drugs.
Our mind senses we need money for our very survival and derives a certain amount of pleasure from attaining it. On the other hand, the threat of financial loss causes the amygdala part of our brains go into survival mode. This in turn can cause some to make fiscally irrational decisions. We need to have a coping mechanism which will help us avoid reckless economic behavior when our survival mode engages. For example, the current pandemic is causing the economic landscape to ebb and flow globally. If you have a proven financial strategy with specific goals, allow system-two of your brain to be in control. Of what benefit would it be to check your 401k or reevaluate your financial portfolio multiple times per day? Behavioral economics and enhancing ones emotional intelligence creates a proper balance that is long lasting and beneficial. We may not be able to control what the global market is doing. However, behavioral economics together with emotional intelligence can assist to bridge the behavior and emotional gap between what feels like the right decision in the moment and what we truly need to do in order to successfully attain our financial objectives.