Individual Economic Decision Making

Question 1

Consumers aim to maximise their…

Answer 1

Utility

Question 2

Producers aim to maximise their…

Answer 2

Profits

Question 3

Total Utility

Answer 3

The satisfaction gained from consumption

Question 4

Marginal Utility

Answer 4

The extra satisfaction derived from consuming one extra unit of the
good

Question 5

Diminishing Marginal Utility

Answer 5

States that as additional products are consumed, the utility gained from the next unit is lower than the utility gained from the previous unit. Therefore, consumers are willing to pay less for extra
units.

Question 6

Utility Maximisation

Answer 6

For consumers is when consumers aim to generate the greatest utility possible from an economic decision.

Firms aim to generate the highest profits
possible

Question 7

Government policies that create economics incentives

Answer 7

Taxation, Subsidisation and Regulation

Question 8

Thinking about the margin means…

Answer 8

Thinking about the effect of an additional action.

Question 9

The importance of the margin when making choices

Answer 9

It allows consumers to keep thinking
ahead. It prevents consumers thinking about things they have already done, and
allows them to consider how to maximise their utility now or in the future.
When making choices, margins can also increase productivity, since the most
important tasks which maximise utility the most, are the ones which are prioritised.

Question 10

Imperfect Information

Answer 10

Where information is missing, so an informed relation cannot be made.

Question 11

Imperfect information leads to…

Answer 11

A misallocation of resources, consumers might pay too much or too little and firms produce an incorrect amount- could lead to exploitation

Question 12

Asymmetric Information

Answer 12

Unequal knowledge between producers and consumers

Question 13

Asymmetric information leads to…

Answer 13

Misallocation of resources (Market Failure)

Question 14

Principle-Agent Problem

Answer 14

Interests of a company’s owners (the principals) are not aligned with those of its managers (the agents) who make decisions on their behalf

Question 15

Ways to reduce the Principle-Agent Problems

Answer 15

1. Align incentives (Offer incentives that are tied to the company’s performance)
2. Increase transparency (Providing regular reports)
3. Appoint independent directors (Act as a check on the decisions made by managers)

Question 16

Bounded Rationality

Answer 16

Argues that people make decisions without gathering all the necessary information

Question 17

Bounded Self Control

Answer 17

Suggests that individuals have a limited capacity to regulate their behaviour and make decisions in the face of conflicting desires or impulses

Question 18

Types of Bias Decision Making

Answer 18

1. Rule of Thumb
2. Anchoring
3. Availability
4. Social Norms

Question 19

Who Created the Bounded Rationality Model (Administrative Man Theory)

Answer 19

Herbert Simon

Question 20

Assumptions of the Bounded Rationality Model

Answer 20

1. The first alternative that is satisfactory is selected
2. The decision maker recognises that they perceive the world as simple
3. The decision maker recognises the need to be comfortable making decisions
   without considering every alternative
4. Decisions could be made by heuristics.

Question 21

Rule of Thumb (Heuristics)

Answer 21

This is when individuals make choices based on their default choice based on experience

Question 22

Anchoring

Answer 22

Make decisions based on the first or a particular piece of information that they use as the ‘anchor’

Question 23

Availability

Answer 23

Trying to make decisions based on the probability of an event happening e.g. the level of insurance to take out

Question 24

Social Norms

Answer 24

Individual economics actors are strongly influenced in their decision making by the prevailing ‘social norm’ of the group/ society that they live in

Question 25

Homo Economicus

Answer 25

Traditional economics theory assumes that every economic actor makes completely rational decision based on perfect information that act to maximise their own individual welfare

Question 26

Daniel Kahneman - System 1

Answer 26

‘Thinking Fast’
Based on intuition which allows people to make shortcuts and makes decisions quickly- often affected by cognitive bias

Question 27

Daniel Kahnemen - System 2

Answer 27

‘Thinking Slow’
Where individuals consider all the information available and aim to make rational decision

Question 28

Loss Aversion

Answer 28

Avoiding losses to achieve equivalent gains

Question 29

What does loss aversion illistrate

Answer 29

Individuals will avoid situations where potential losses are involved and take less risks where a potential loss may arise

At the same time they will be prepared to take a greater risk when a loss has occurred

Question 30

Altruism

Answer 30

a concern for the welfare of others

Question 31

Fairness

Answer 31

a normative judgement of what is right/reasonable

Question 32

The importance of altruism and perceptions of fairness

Answer 32

Altruism, can have a big influence on how we make decisions. Even if it has a negative impact on them personally, people can make decisions that are good for society or for other people.

Decision-making can be influenced and negatively affected by unfairness or injustice. Distributive justice and procedural fairness are two ideas that have an impact on people’s willingness to collaborate, exhibit reciprocal behaviour, and make choices that are consistent with their sense of fairness.

Question 33

Choice Architecture

Answer 33

The way choices are presented to consumers

Question 34

Examples of Choice Architectures

Answer 34

Default choice- a choice is automatically chosen unless the individual chooses otherwise.

Restricted choice- too many options means individuals are less likely to participate in the activity, restricting choice means they’re more likely to participate.

Mandated choice- Legally enforced choice

Question 35

Framing

Answer 35

How to information is presented

Question 36

Nudges

Answer 36

Interventions that subtly encourage people to make particular decisions without limiting their freedom of choice.