Individual Economic Decision Making Flashcards
(27 cards)
how to use bounded rationality in a question
evaluation that the theory will not always work
e.g. geographic immobility - people dont move because of familial or friend commitments
bounded rationality
consumers do not always make rational decisions
satisficing
a decision-making strategy where individuals or organizations choose a solution that is “good enough” rather than striving for the absolute best or optimal option
how does the free market price mechanism attempt to reflect consumer behaviour
elasticity
what is consumers aim when consuming
to utility maximise
what is firms aim when producing
to profit maximise (or revenue, sales, or morality?, etc.)
utility
total satisfaction received from consuming a good / service
marginal utility
extra satisfaction derived from consuming one extra unit of the good
economic agents and their ‘inecntive’
entrepenurs : risk taking incentive is profit
firms : increased revnue incentive to produce more
consumers : increased utility incentive to consume more
symmetric information
consumers and producer have perfect market information
leading to efficient allocation of recourses
imperfect information
one party has information missing
an informed decision cannot be made
leads to missalocation of recourses (e.g. consumers pay too much or firms produce incorrect amount)
effect of asymmetric information
leads to market failure / misallocation of recourses
consumers can end up with welfare loss due to paying too much for a product not worth it
or producers experience a loss when providing a service at too low a price due to information failure
principle agent problem
arises when an agent (like a manager or employee) acts on behalf of a principal (like an owner or shareholder), but their interests and motivations may not be aligned, leading to potential conflicts of interest
how to resolve imperfect information
advertising / government intervention
e.g. smoking
assumptions of bounded rationality
the first alternative that is satisfactory is selected
the decision maker recognises that they are picking simplistically + not considering every alternative
decisions could be made by heuristics
heuristics
mental shortcuts or “rules of thumb” that people use to make quick judgments and decisions
examples of consumers not practising self control
consuming more than the peak (or just the first unit) of a good with diminishing marginal utility
biases in decision making
rules of thumb
anchoring
social norms
availability
social norms in decision making
will often pick the most ‘normal’ or ‘popular’ consumption habits
e.g. tipping or going to a more popular restaurant
anchoring in decision making
human tendency to rely on the first piece of information they are given
e.g. negotiating prices will feel like a win for consumers, even if end price is still inflated
availability in decision making
bias towards events that were recent, personal, or memorable
spread through information spreading, often in news and media
consumers assume plane accidents are more likely, might choose to travel by car/train instead
choice architecture
the design of different ways in which choices can be presented to decision makers, and the impact of that presentation on decision-making.
For example, the presence of a “default”
framing
the way information is presented, which can significantly influence how individuals perceive and make decisions.
This means the same facts, presented differently, can lead to different choices.
For example, a product advertised as “80% lean” might seem more appealing than one labeled “20% fat,” even though they are identical.
nudges
a subtle change in the way options are presented to influence people’s choices without restricting their freedom or altering their economic incentives
e.g. subsidising alternatives rather than regulating the original to change patterns of consumption
