Ethan Bilby

The euro zone debt crisis may be as much about the heart as it is about the head – like jilted lovers, investors are just finding it hard to trust again.

Behavioural economists say financial bubbles can create an emotional high that turns into an irrationally deep low when the bubble pops – people begin to ignore fundamentals and have only negative associations with certain investments.

“Something like that is now happening with the euro zone where it has become contaminated on a psychological level and hated,” says David Tuckett, a psychoanalyst and author of Minding the Markets.

“It actually is quite a good analogy to think of if your girlfriend has an affair or something. It’s actually very difficult to get back (together), although it can be done.”

Tuckett and other proponents of “emotional finance” – the intersection of managerial finance and investor psychology – say that in periods of crisis following sustained growth, fear and panic can spread like a virus.

“Sometimes just a little trigger, quite often trivial, can lead to a tipping point unravelling the whole thing usually very quickly. It starts moving in one direction, then panic takes over… basically driven by herding behaviour,” says Paul de Grauwe, a professor of international economics at the University of Leuven and an expert on monetary union and European debt.

In the case of the euro, the prospect of a Greek default was enough to take Greece’s debt problems off years of slow boil and eventually prompt Europe to think of the unthinkable – breaking up the euro zone.

To emotional finance experts this makes sense; like the example of the troubled relationship, at a certain point everything associated with a former love begins to seem tainted.

Emotions are a way people can tip the scales in a dilemma between two unknowns, and changes in these emotional states drive events like the euro zone crisis, Tuckett says.

“In order to make decisions in a world of uncertainty, if it’s falling in love with something or making a big investment or buying a house, your emotions have to be engaged in that decision because it cannot be done on rational grounds alone.”

According to psychologists, the brain’s emotional workings can be divided up into three systems: wanting, attachment and anxiety.

Wanting is what psychologist Sigmund Freud called the pleasure principle, and is reinforced by the production of the neurotransmitter dopamine, a highly addictive chemical. Attachment produces something different – oxytocin, which is associated with the pleasure received from being part of a relationship, even a fleeting one. Tuckett says that this same type of attachment pleasure is derived by holding onto investments.

The anxiety that unpredictability and uncertainty produces is not appreciated fully enough, says Richard Taffler, a professor of finance and accounting at Warwick Business School.

When investors lose confidence in their ability to know the direction of the market, they turn negative and stop believing in their data, he says.

One senior economist at an international organisation says the only sure way to stop the virus spreading is for governments, and specifically the European Central Bank, to take decisive action. – Reuters