4.1.2 Individual economic decision making

Question 1

What is utility?

Answer 1

the amount of satisfaction or benefit that a consumer gains from consuming a good or service

Question 2

What is marginal utility?

Answer 2

the satisfaction gained from consuming an additional unit of a good or service

Question 3

What is the law of diminishing utility?

Answer 3

as quantity consumed increases, the marginal utility derived from each extra unit decreases

Question 4

What is imperfect information/lack of information?

Answer 4

when economic agents do not know everything they need to know in order to make a fully informed decision. difficult for economic agents to make rational decisions and is a potential source of market failure!!!

Question 5

What is asymmetric information?

Answer 5

a source of information failure where one economic agent knows more than another, giving them more power in a market transaction

Question 6

Traditional Neo-Classsical Economics

Answer 6

consumers will always act rationally and maximise their utility when making decisions

Question 7

What does behavioural economics dispute?

Answer 7

the premise of rational economic thought arguing that consumers will not always act rationally to utility maximise, instead will sometimes make irrational decisions as emotional, social and psychological factors can influence decision making

Question 8

Define bounded rationality

Answer 8

when consumers lack the time, information, or cognitive ability to make a rational and utility-maximising decision

Question 9

Define bounded self-control

Answer 9

when individuals lack the self-discipline to make utility-maximising decisions in relation to consumption or spending

Question 10

Give an example of bounded self control

Answer 10

• not saving for a pension
• consuming unhealthy/high-sugar foods

Question 11

Define altruism and fairness (bounded selfishness)

Answer 11

individuals are motivated to do the right thing, even if this means paying more for a good or service

Question 12

Define heuristics ‘rules of thumb’

Answer 12

mental shortcuts that are used by consumers due to the constraints of bounded rationality

Question 13

Define anchoring

Answer 13

the tendency for individuals to rely on specific pieces of information, typically the first piece they are given

Question 14

Give an example of anchoring

Answer 14

when shops display the recommended retail price on price labels whilst also showing the real discounted price. consumers have been anchored by the RRP price and by looking a the real price, they feel as though they are getting an excellent deal even though this price may not be good value

Question 15

Define availability bias

Answer 15

when individuals make judgments on the probability of events occurring based on recent experiences

Question 16

Define social norms

Answer 16

where consumers make decisions based on society etiquette and expectations of how to behave given how other people in society act

Question 17

What does choice architecture refer to?

Answer 17

the way choices are presented to consumers

Question 18

What is a potential benefit of choice architecture?

Answer 18

• well designed choice architectures can help consumers avoid making irrational and poor choices
• this could improve consumer welfare

Question 19

Give an example of choice architecture

Answer 19

• organ donation
• countries with an ‘opt-out’ organ donation have higher rates of donation that countries with an ‘opt-in’ system

Question 20

What are nudges?

Answer 20

a type of choice architecture that aim to change the behaviour of consumers by small suggestions and positive reinforcements

Question 21

Give an example of a nudge

Answer 21

rather than banning junk food, increase the information about the benefits of healthy food`

Question 22

What is framing?

Answer 22

the way in which consumers are influenced by the context of how a choice is presented (for instance if positive or negative semantics are used)

Question 23

Give an example of framing

Answer 23

consumers are more likely to purchase something if it is framed with monthly payments, rather than a lump sum

Question 24

Define a default choice

Answer 24

When a consumer is automatically enrolled in to a system, such as a pension scheme

Question 25

What is a mandated choice?

Answer 25

when consumers are required to state whether they wish to participate in an action

Question 26

What is a restricted choice?

Answer 26

restricting consumers to a limited number of choices

Question 27

Why are restricted choices used?

Answer 27

because of the existence of bounded rationality

Question 28

What is an evaluation point on choice architecture and nudges?

Answer 28

critics say the use of nudges and choice architecture are manipulative and interfere with individuals’ freedom of choice

Question 29

What is the response to the criticism of choice architecture and nudges?

Answer 29

since people are unlikely to have complete information, unlimited cognitive ability, and unrestrained will power - they will inevitably make sub-optimal choices and so nudges and choice architecture can improve people’s well-being