Prospect Theory

Prospect theory is an economic behavioral theory that explains how people make decisions when options are based on risk when they are aware of the outcome probabilities. Developed by psychologists Kahneman and Tversky, prospect theory shows that individuals tend to base decision making on potential gains and losses instead of the final outcome possibilities. Individuals tend to be more risky and more likely to gamble with profits but not with losses. Individuals use mental framing and heuristics to make these decisions. This theory was extraordinarily influential in economics and introduced psychological concepts to economic theory.