Abstract Financial volatility is traditionally modeled as a statistical or structural feature of markets, yet mounting evidence suggests that a substantial share of short-term price dynamics originates in the cognitive architecture of economic decision-making. This paper proposes a heuristic-based theory of volatility that integrates insights from behavioral cognition, Prospect Theory, and post-Keynesian uncertainty. Drawing on Kahneman’s dual-system framework, we argue that volatility is not merely a reaction to fundamentals but a cognitive artifact emerging from the dominance of fast, intuitive, and emotion-driven heuristics under conditions of uncertainty. Through a synthesis of Minsky’s financial fragility hypothesis and modern behavioral evidence, we show that the interaction between loss aversion, availability-driven risk assessment, ancorageming effects, and representativeness heuristics generates predictable patterns of overreaction, underreaction, and excess volatility. Using a mixed-method approach combining theoretical modeling with empirical stylized facts, we demonstrate how heuristic reactivity shapes volatility clusters, market cycles, and episodes of fragility. The paper concludes that financial instability cannot be fully understood without incorporating cognitive distortions, and calls for renewed macro-financial architecture that recognizes volatility as a behavioral phenomenon embedded in the psychological structure of decision-making rather than as a mere statistical irregularity. Keywords: Volatility, Behavioral Heuristics, Post-Keynesian Economics.
Aline Leandro (2026) studied this question.