By Gareth Cook, Globe Staff, 10/23/2001 http://www.boston.com/dailyglobe2/296/science/The_biology_of_irrational_exuberance_+.shtml
When Alan Greenspan coined the phrase ''irrational exuberance,'' he was cautiously telling America that investors had begun to create a stock-market bubble. He was right.
Now it looks like he might have been onto some serious science as well.
In a yearlong study at a major Boston financial company, researchers from the Massachusetts Institute of Technology and Boston University found that professional currency traders react to changing markets not just with their brains, but also subconsciously - with their whole bodies. As they sit at their desks moving millions of dollars through the financial system, their vital signs react almost instantaneously as prices dip and rise.
They are, in other words, wired to the market.
Like bond traders and stockbrokers, foreign-currency traders are paid to act rationally - to ignore the waves of emotion that consume amateur investors. Yet all of the currency traders in the new study showed a clear physiological response to what the markets did, experiencing powerful surges - jumps in blood flow, sweating - with every rally and reverse. A strong emotional reaction was clear in regions far from the rational mind.
The research, conducted by an MIT economics researcher and a neuroscientist at BU, adds momentum to a growing revolt against classical economic theories, which assume people will always make decisions by thinking and acting rationally.
A growing group of economists has been arguing that financial markets do not always behave in a rational way. They go through panicky stock-market selloffs or dramatic spikes that cannot be easily explained by reasoned behavior.
A better model, the new study's authors believe, will develop when economics can find a place for the irrational quirks of human nature. And their paper, accepted for publication in the Journal of Cognitive Neuroscience, is the first such study done outside a laboratory, opening up a new kind of research into how people actually make decisions and respond to risk. <...>