4.1.2 Individual economic decision making Flashcards
What is utility theory?
The benefit/satisfaction we get from consuming a product
What is marginal utility?
The addition to total utility from consuming one more unit
What is the law of diminishing utility?
As we consume additional units of a product, the extra utility from each one falls
What is total utility?
The total benefit we get from consuming a product
What does rational economic decision making mean in terms of consumption?
We will keep consuming as long as marginal utility is greater than the marginal cost
Why is the margin important when making choices?
That is where economic decisions are made
What does symmetric information mean?
Consumers and producers have perfect market information to make their decision, leading to an efficient allocation of resources.
What does imperfect information mean?
Information is missing, so an informed decision cannot be made, leading to a misallocation of resources.
Why does imperfect information lead to a misallocation of resources?
Consumers might pay too much or too little, and firms might produce the incorrect amount.
What does asymmetric information mean?
There is unequal knowledge between consumers and producers.
What is the significance of asymmetric information?
It makes it difficult for economic agents to make rational decisions and is a potential source of market failure.
How can the issue of asymmetric information be solved?
Information could be made more widely available through advertising or government intervention.
What is bounded rationality?
There are limitations to our rationality due to limited education/understanding, limited time, and imperfect information.
What is bounded self-control?
Consumers are unable to exercise self-control with some decisions, such as food.
What are examples of biases in decision making?
Rules of thumb, anchoring, availability and social norms
What are heuristics?
- Shortcuts to avoid taking too long to make the decision, avoiding the problem of having imperfect information or limited time
- They simplify the decision making process to come to a reasonable decision
What is the impact of social norms on decision making?
- Other people’s behaviour creates a bias within the consumer
- The social pressure encourages consumers to do things they would not otherwise do, or that they know could be harmful
- Consumers become unwilling to change, even if it is of benefit to them, if it goes against the norms of their society
What is anchoring?
A type of bias created by the human tendency to rely on the first piece of information they are given.
What is the impact of anchoring on decision making?
The first piece of information causes consumers to be biased towards it when subsequent information is given.
What is availability bias?
A form of bias towards events that were recent, personal or memorable, as they are overestimated and cause emotional responses.
What is the impact of availability on decision making?
- For example, consumers are likely to think plane accidents are much more likely to occur if they have been involved in one or know someone else who has, even though they are very rare, which then influences how they behave
- This type of bias is spread across populations by reporting them in the news and media
What is cognitive bias?
Irrational thinking, which may lead to prejudice
What is confirmation bias?
When people favour information that aligns with their own beliefs
What is the impact of confirmation bias on decision making?
People ignore information that contradicts their own beliefs, whether they are true or not, which could lead to irrational decision making.
