Question

Behavioral Finance is subject

1. With the aid of a suitable example, discuss whether and how some government policies may be improved through our understanding of mental accounting.

Finance

cite if necessary

Answer 1

Mental accounting bias is a part of behavioural finance which will advocate that people perception of money changes as subjective value of that money changes because it will be often integrated in respect of how we have earned the money and how we are going to use it and how we are going to feel. People will be trying to treat money less fungible than it really is.

Government policy may be improved through understanding of the mental accounting because how we mentally treat the value of money will be important in order to formulate various government policies as they are going to assign various kinds of different tax rate to the value of money which has been earned differently because it is really associated with the perception of the individual to spend that money and policies of taxation should be formed accordingly.

This government policies will be improved by understanding of the mental accounting as they will be trying to tax those gains more which are windfall gains and they will be trying to place less taxation to all those gains which has been made through actual efforts and hence it will help in understanding the overall phenomenon of mental Accounting in respect to fiscal policies of the government.

For example, if the windfall gain is occurred to the taxpayer, then he should be made liable to pay with the higher rate of taxation