Applying Behavioral Economics to Consumer Finance

This month's issue of the NBER Digest had an article on how a group of economists carried out a field experiment in behavioral economics (which uses tools from psychology to expand upon traditional notions of rationality in economics): A Field Experiment in the Consumer Credit Market. The academics -- from the University of Chicago, Harvard, Yale, Princeton, and Dartmouth -- used psychological factors in marketing consumer loans in South Africa. The researchers found that "a firm can exploit consumers' psychological biases, thereby increasing demand without lowering prices." What was most impressive about their field experiment was that their methods allowed the lender to create demand for loans equivalent to dropping the interest rate by 1 to 4 % without having to actually drop the interest rate!

A preliminary draft of the research paper can be found here.