An Approach to Incorporating Psychology into Economics ∗

This article proposes an approach to improving the psychological realism of economics while maintaining its conventional techniques and goals: formal theoretical and empirical analysis using tractable models, with a focus on prediction and estimation. These techniques have proven valuable for studying the behavioral and welfare implications of economic phenomena—oil shocks, higher education, job search—and policy changes—extending unemployment insurance, lowering cigarette taxes, fiscal cliffing, or regulating monopoly. Models with greater psychological realism can best improve understanding of the economy and policy when done with the mathematical and statistical rigor required by mainstream economic questions and methods. In this view, we should develop new models of humans—but use the same old model of modeling humans.