Would you take a gamble that assured you a 50 per cent chance of winning Rs 150 and a 50 per cent chance of losing Rs 100? If you were Rs 100 poorer, what then-would you still take the gamble?

The rational risk-taker would make a simple calculation of expectation. Half of Rs 150 minus half of Rs 100 yields Rs 25-which is theoretically what you stand to gain. It's a worthy bet. But experiments have shown that people tend to shrink from such bets unless the size of the potential win is at least twice the possible loss; probabilities be damned, to most people, Rs 150 is just not tempting enough to offset the fear of a Rs 100 loss.

In other words, people have an irrational fear of loss. So the 'rational agent' assumed by standard economic theory turns out to be a rare specimen. And this is significant enough for the 2002 Nobel Prize in Economics to have gone to a psychologist: Daniel Kahneman, the Eugene Higgins Professor of Psychology at Princeton University. He shared his Nobel with Vernon Smith, "for having integrated insights from psychological research into economic science, especially concerning human judgment and decision-making under uncertainty", as the citation went. For most of his career, though, Kahneman worked with Amos Tversky (who died in 1996, the year Peter Bernstein wrote his book on risk), shaping 'Prospect Theory'. Human behaviour can be perplexing, the theory says. Emotions play a role. Guts count. Subjects when offered a choice formulated in one way might display risk-aversion but when offered essentially the same choice formulated in a different way, might display risk-seeking behaviour. And decisions under uncertainty are rarely explained by the classic 'utility function of wealth' model that has always guided economics. What matters, instead, are the attitudes to gains and losses-that too, defined in relation to a reference context. This contextualisation is natural. For, "immersing the hand in water at 20 degrees Celsius will feel pleasantly warm after prolonged immersion in much colder water, and pleasantly cool after immersion in warmer water".