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Considers the irrational aspects of human behavior, and the development of economists' efforts to understand and predict it. Development of economic rationalism and the efficient markets hypothesis; Behavioral traits identified by experimental psychologists that affect rationality, including regret, cognitive disonance, magical thinking and others; Incorporation of real behavior into economic models.

Discusses `Rational Expectations: The Optimal Monetary Instrument and the Optimal Money Supply Rule,' by Thomas Sargent and Neil Wallace, as part of `Economist's' series on modern classics of economics. This brief is one of the earliest, most influential and controversial papers on rational expectations, a simple idea that has transformed macroeconomics. Details. INSET: A theorist's revenge..

The article discusses the contributions that earned Thomas Sargent and Christopher Sims the 2011 Nobel Prize in economics. Sargent devised a way to test the claims of a new version of rational expectations theory championed by economist Robert Lucas and others. Sims developed a method called vector auto-regression, which establishes a link between the present value and past value of economic variables.

The author offers opinions on economics and economists. The discipline of economics is said to have played a large role in the creation of the global financial crisis due to its focus on the so-called "rational expectations hypothesis," which assumed financiers and financial institutions would always recognize their own best interests. The Institute for New Economic Thinking (INET), a research institute dedicated to expanding economics research, is praised.

The author offers opinions on the October 19, 1987 crash of U.S. stock markets, when the Dow Jones Industrial Average fell 23 percent in a single day. Though the crash had little lasting economic impact, it is seen as a cautionary tale for investors. Financial models still understate the likelihood of extreme market events, as has been shown in the liquidity crisis of 2007 caused by the U.S. mortgage market. Central banks will not be able to ameliorate all future financial crises.

The article discusses an economic model that analyzes how uncertainty affects investment. When a "shock" is administered to a model, that is, some event like a rise in oil prices, economists can calculate the impact in terms of output, prices, employment, and so on. Oil prices fluctuating in a small range, such as $50-$60 have lower uncertainty than a volatile range of $20-$100. When uncertainty is high, would-be investors take a wait-and-see attitude that dampens investment and job growth.

Discusses a study by American economists published in the September 1991 issue of the "Economic Journal" on the use of rats to test how individuals choose between two uncertain outcomes. Testing of the shape of the rats' indifference curve; Subjecting of the rats to a two-tailed t test, a standard statistical tool for measuring the soundness of experimental results; Confirmation that rats' indifference curves were not linear but convex.