A Report on Behavioral Economics Applications in the Financial Sector
Financial decisions are among the most significant choices an individual makes, as they are closely connected to all aspects of life. When money is involved in any decision, the situation becomes more complex. As a result, several questions arise regarding an individual’s financial behavior.
Financial decisions are influenced by numerous personal factors—such as individual preferences, past experiences, and educational level—in addition to external factors like the surrounding environment, social class, monthly income level, and the behavior of family and friends. These influences may be either positive or negative, conscious or unconscious. Behavioral economics explains that individuals are not fully rational when making decisions and that they are subject to various psychological and external biases. The concept of Bounded Rationality illustrates that people have limited capacity to think and analyze, and are influenced by the availability of information and the way it is presented. A one-time decision (such as purchasing a family home) requires effort and full understanding of information, unlike repetitive decisions (habits), which are automatic and require little effort.
Moreover, cognitive biases vary widely among individuals. In financial decisions, for example, we are often influenced by information that confirms our pre-existing beliefs—such as choosing to invest in certain company stocks over others, or preferring saving over investing because it is perceived as less risky (Confirmation Bias). Individuals may also delay saving in favor of immediate consumption (Present Bias). Additionally, excessive confidence in one’s financial judgment (Overconfidence Bias) may lead to misjudging the risks of certain investments, resulting in undesired long-term outcomes.
Many policymakers believe that providing information about financial systems, programs, and services (such as saving or investment programs) through digital or traditional channels enables people to understand the information and make decisions accordingly. However, numerous behavioral economics studies show that merely offering large amounts of information does not guarantee that individuals will understand it or make sound financial choices.
The Behavioral Insights Team in the United Kingdom conducted an experiment in collaboration with a government entity that focused on how information is framed and presented, and how this impacts users’ understanding and ability to apply it in real life. The experiment also measured the level of trust individuals had in the institution providing the information, which is closely linked to clarity and presentation. Findings revealed that simplifying information—such as adding visuals, diagrams, and real-life examples—significantly improved understanding and increased trust in the information provider by 19% compared to the control group.
How Can Behavioral Economics Help Design Programs That Lead to Better Financial Decisions?
Behavioral economics includes several theories and research methodologies aimed at influencing behavior. It relies on testing interventions on a sample of the target population before implementing them on a wider scale. This approach saves time, effort, and cost while scientifically assessing the intervention’s effectiveness before presenting it to policymakers. Most tools and methodologies used in behavioral change are grounded in understanding psychological biases, such as the MINDSPACE framework. Applying these methodologies has resulted in several recommendations for designing behavioral interventions in the financial sector, including:
1. Simplifying and Clarifying Financial Information
Australia’s Behavioral Economics team conducted an experiment by redesigning household electricity bills (showing monthly consumption and potential savings if usage is reduced). Results showed a 13% increase in trust in the information provided.
2. Using Social Norms to Influence Behavior
Social comparisons highlight how widespread a behavior is in society. An electricity company in Europe redesigned bills to show households how their electricity consumption compared to that of their neighbors. This led to a 2% reduction in electricity usage. Although small, this reduction significantly lowered carbon emissions (over 450,000 tons), equivalent to $75 million in energy savings.
3. Choosing the Right Timing to Encourage Saving
Timing plays a key role in behavioral change—such as saving at the beginning of the month when salaries are deposited, or avoiding unplanned spending during shopping. A simulation experiment focused on saving leftover shopping budget. Participants were given the option to save any unspent amount. Results showed that 9 out of 10 people chose to save the remaining balance.
4. Providing Incentives to Encourage Saving
“Commitment programs” can increase saving rates because they encourage participants to set specific goals—often accompanied by rewards (financial or symbolic) for achieving them, or penalties for failing to comply. Many saving programs offer incentives for consistently saving a fixed amount.
5. Improving Information Framing and Presentation
An experiment examining investment-portfolio selection found that investors reacted differently when potential losses were displayed in dollar values instead of percentages—regardless of their prior experience. This influenced their investment choices significantly.
Behavioral Economics in Saudi Arabia
In Saudi Arabia, several programs and initiatives aim to encourage saving and investment, in line with Vision 2030 objectives—such as the Financial Sector Development Program, which involves collaboration among various government entities addressing regulations, systems, and individual financial behaviors.
A notable example is the “Invest Wisely” platform launched by Tadawul, which guides users through multiple stages—from learning the basics of investing, participating in workshops, practicing through virtual trading, and finally engaging in competitive activities to promote investment skills.
References
Lefevre, A., & Chapman, M. (2017). Behavioural economics and financial consumer protection. OECD Working Papers on Finance, Insurance and Private Pensions, No. 42. OECD Publishing, Paris. https://doi.org/10.1787/0c8685b2-en
Simon, H. (1990). Bounded rationality. In Utility and Probability (pp. 15–18). London: Macmillan. https://doi.org/10.1007/978-1-349-20568-4
Scott, G. (2019, August 2). Confirmation Bias. Investopedia. https://www.investopedia.com/terms/c/confirmation-bias.asp
Erta, K., Hunt, S., Iscenko, Z., & Brambley, W. (2013). Applying behavioural economics at the Financial Conduct Authority. Financial Conduct Authority.
Bholat, D., Broughton, N., Ter Meer, J., & Walczak, E. (2019). Enhancing central bank communications using simple and relatable information. Journal of Monetary Economics, 108(C), 1–15.
Samson, A. (Ed.). (2015). The Behavioral Economics Guide 2015 (with an introduction by Dan Ariely). Retrieved from http://www.behavioraleconomics.com
Bialecki, J., Blomfield, T., Arthur, B. C., Perlesz, L., & Cotching, H. (2018). Electricity information to fit the bill. The Behavioural Economics Team.
iNudgeyou. Green Nudge: The Classic Social Comparison Experiment by Opower. https://inudgeyou.com/en/green-nudge-the-classic-social-comparison-experiment-by-opower/
Money Advice Service, Behavioural Insights Team, & Ipsos MORI. (2018). A behavioural approach to managing money: Ideas and results from the Financial Capability Lab.
Karlan, D. (2009). Commitment to saving: Using behavioral economics to motivate members. Filene Research Institute, USA.
BEWORKS. Behavioural Economics in Action: Applying Behavioural Economics to the Financial Services Sector.
Tadawul. Invest Wisely Platform and Virtual Trading. https://www.tadawul.com.sa
