An important part of behavioural economics is how we view risk and uncertainty. In a 1979 article, Daniel Kahneman, together with Amos Tversky, launched the so-called prospect theory, which deals with how we deal with risk and uncertainty.^[8] See Kahneman and Tversky (1979). Tversky died in 1996 and was therefore unable to receive the 2002 Economics Prize. Two key elements of prospect theory are reference dependence and loss aversion.^[9] See Royal Swedish Academy of Sciences (2002) and Barberis (2013) for overviews of prospect theory. Reference dependence means that we assess the value of an asset depending on how it relates to a reference, such as the purchase price. Loss aversion is about wanting to avoid losses in the face of economic uncertainty because they affect us more than the corresponding gains do. And the losses are then related to the reference value. A simple example can illustrate: If a person has bought a share and then sells it, it is considered a “good or bad deal” based on the purchase price, and a loss has a greater impact on utility than the corresponding gain has.

The area in which prospect theory has had the greatest influence is financial economics. Behavioural finance has been a very active and well-known field of research for quite some time.^[10] See for example Barberis and Thaler (2003) and Shiller (2003). Given how important the valuation of risk and uncertainty is in financial markets, this is perhaps unsurprising.