Chapter 16 & 17 Flashcards
(29 cards)
What is utility?
A measure of the level of satisfaction that a consumer enjoys from the consumption of goods and services.
- A balance between economic and personal factors
How is utility measured and what is its key feature?
Util: A personal unit of satisfaction used to measure the enjoyment from consumption of a good or service.
What is total utility?
The total aggregate satisfaction from consuming a good or service
What is marginal utility?
The _additional satisfaction derived from consuming one more uni_t of a good or service
When does diminishing marginal utility occur?
When marginal utility declines as consumption increases
What is the consumer optimum (in relation to utility)?
The combination of goods and services that maximises the consumer’s utility, or satisfaction, for a given income or budget.
How do we reach consumer optimum with two goods?
Allocating available money by choosing goods that give you the most utility per dollar spent
How do we reach consumer optimum with more than two goods?
A consumer’s income or budget is balanced so that the ratio of the marginal utility per dollar spent on every item, from good A to good Z, is equal.
What is the effect when prices decrease or increase on the marginal utility per dollar spent?
Price decrease → Increases marginal utility per dollar spent and causes consumers to buy more of the good
Price increase → Decreases marginal utility per dollar spent and causes consumers to buy less of the good (law of demand)
- Law of Demand
Note: Marginal utility does not change
When does the substitution effect occur?
When consumers substitute a product that has become relatively less expensive as the result of a price change
When does a real-income effect occur?
When the price changes enough to cause a measurable effect on the purchasing power of the consumer’s budget/income.
What is purchasing power?
The value of income in terms of how much you can afford
What does the diamond-water paradox explain?
- Why water, which is essential to life, is inexpensive, while diamonds, which do not sustain life, are expensive
- Water is abundant and would yield less marginal utility than something rare, diamonds (MUw < MUd) but has greater total utility.
- McDonalds v Up-scale restaurant
What is behavioural economics?
The field of economics that draws on insights from experimental psychology to explore how people make economic decisions
What is the theory of bounded rationality?
Proposes that although decision-makers want a good outcome, either they are not capable of performing the problem solving that traditional economic theory assumes or they are not inclined to do so
What are three ways the theory of bounded rationality can be explained?
- Limited or incomplete information is used
- Ability to process may be limited
- Limited amount of time
PIT
What are the behaviours not accounted for in the assumptions of rational behaviour?
- Misperception of probabilities
- Inconsistencies in Decision-Making
- Judgements about Fairness
MIF
What is gambler’s fallacy?
The belief that r_ecent outcomes are unlikely to be repeated_ and that outcomes that have not occurred recently are due to happen soon
What is the hot hand fallacy?
The belief that r_andom sequences exhibit a positive correlation_
What is the framing effect?
When people change their answer depending on how the question is asked (or change their decision depending on how alternatives are presented). eg. opt-in v opt-out
What is the priming effect?
When the order of the questions influences the answers.
What is Status Quo Bias?
When decision-makers want to maintain their current choices, even when an objective evaluation of their circumstances suggests that a change would be beneficial
What is inter-temporal decision making?
Involves planning to do something over a period of time which requires valuing the present and the future consistently
When do preference reversals occur? Why?
When risk tolerance is not consistent
- due to financial circumstances and how much impact the gain/loss has
