Kennah economics 1.2 Rational decision making

Question 1

The underlying assumption of rational economic decision making. What to consumers aim to maximise

Answer 1

UTILITY which is the satisfaction gained from consuming a product

Question 2

The underlying assumption of rational economic decision making. What to firms aim to maximise.

Answer 2

PROFIT. Economic theory assumes that firms are run for their owners and shareholders and so aim to maximise profit to keep shareholders happy

Question 3

The underlying assumption of rational economic decision making. What do the government aim to maximise.

Answer 3

SOCIAL WELFARE. Governments are voted in by the public and work for the public so should aim to maximise the satisfaction by taking decision which increase social welfare.

Question 4

What are the economic agents

Answer 4

Individuals.
Government.
Businesses.

Question 5

What is market demand?

Answer 5

The quantity of goods or service that will be purchased at a given price in a given time period.

Question 6

What is ‘effective demand’.

Answer 6

Means the ability and willingness to buy a good or service.

Question 7

What is the difference between a movements and shift of the demand curve?

Answer 7

A movement is caused by a change in price of the good where as a shift is caused by a change in any of the factors which affect demand.

Question 8

What are the factors that cause a shift in demand. ( pasific )

Answer 8

Population.
Advertisement.
Substitutes.
Income tax.
Fashion/trends.
Interest rates.
Compliments.

Question 9

What is elasticity of demand

Answer 9

An attempt to measure the responsiveness of quantity demand to a change in other variables .

Question 10

What is price elasticity of demand.

Answer 10

Responsiveness of demand to a change in prices of the good.

Change in quantity demand/change in price (%)

Question 11

Factors of price elastic goods.

Answer 11

Very responsive to price changes.
Many substitutes.
Products widely available.
E.g cereal.

Question 12

Factors of price inelastic goods.

Answer 12

Less responsive to price changes.
Highly branded.
Innovative.
In short supply.
Few substitutes .
Habit forming.

Question 13

Factors influencing PED. SPLAT

Answer 13

S=subsitutes
p=%of income
L=luxury or necessity
A=addiction
T=time

Question 14

What is income elasticity of demand

Answer 14

The responsiveness of demand to a change in REAL income.

%change in quantity demanded/%change in income

Question 15

What is a normal good

Answer 15

Demand rises as income rises. When YED between 0-1

Question 16

What are inferior goods

Answer 16

Demand falls as income rises. When YED is <0

Question 17

What are luxury goods.

Answer 17

Type of normal goods when YED > 1

Question 18

What is cross price elasticity of demand

Answer 18

This is responsive of quantity demanded for a good for a change in price of another good.

%change in quantity demanded of good a/ % change in price of good B

Question 19

Values of XED

Answer 19

Complements=negative XED
Substitutes=positive XED
Weak relationship=<1
Close relationship=>1
No relationship=0

Question 20

What is supply

Answer 20

The ability and willingness to provide a good or service at a particular price at a given moment of time.

PES= %change in QS/% change in price

Question 21

Factors that cause a shift in supply (PINTSWC)

Answer 21

P=productivity
I=indirect taxes
N=number of firms
T=technology
S=subsidies(and taxes)
W=weather
C=costs

Question 22

What is competitive supply

Answer 22

Where the production of one good prevents the supply of another

Question 23

What is price elasticity of supply

Answer 23

This is the responsiveness of supply to a change in price of the good

Question 24

Factors influencing PES
BRITS

Answer 24

B=barriers to entry
R=raw materials
I=inventory
T=time
S=spared capacity(land/time)

Question 25

What is short term classed as

Answer 25

The period of time when at least one factor of production is fixed

Question 26

What is long term classed as

Answer 26

Period of time when all factors of production are variable.

Question 27

What is equilibrium

Answer 27

A situation in which price has reached the level where quantity supplied= quantity demanded.

Question 28

What is equilibrium price

Answer 28

The price that balances quantity supplied and quantity demanded.
(Pe)

Question 29

What is equilibrium quantity(Qe)

Answer 29

The quantity supplied and quantity demanded at the equilibrium price

Question 30

What is the equilibrium also called

Answer 30

The market clearing price because at this price everyone in the market has been satisfied

Question 31

What do you get if your raise prices above equilibrium

Answer 31

A surplus. Excess supply

Question 32

What do you get if you lower prices below equilibrium.

Answer 32

A shortage. Excess demand

Question 33

What is the rationing function

Answer 33

The price system is as a way of rationing goods because when prices increase some people will no longer be able to afford to buy the product and others may not have the desire to buy the good. This allows the limited resources to be rationed and allocated to the people who can afford them and value them the most highly.

Question 34

What is the signalling function

Answer 34

The price mechanism acts as a signal where resources should be used. When prices rise producers move resources into the manufacture of that product. The change in price indicates to supplier and consumers that market condition have changed so they should change the quantity bough and sold as when price equilibrium moves so does output equilibrium.

Question 35

What is the incentive function

Answer 35

Acts as an incentive for people to work. Buyers realise the more money they have they can buy more products. Suppliers realise that if they produce more goods they will make more money. Also low prices act as an incentive for consumers to buy more of a good and high prices act as an incentive to supplier to sell more of a good.

Question 36

What is consumer surplus

Answer 36

The difference between the price the consumer is willing to pay and the price they actually pay set by the price mechanism.

Question 37

What is producer surplus

Answer 37

The difference between the price the supplier is willing to produce their product at and the price they actually produce at set by the price mechanism.

Question 38

Alternative views of consumer behaviour

Answer 38

The underlying assumptions for all rational decision making is that customers aim to maximise it utility, companies aim to Maximise profit, government aim to maximise welfare. However people do not always act rationally

Question 39

What are the 3 reasons consumers don’t behave rationally?

Answer 39

*influences of other people
*influence of habitual behaviour
*consumer weakness at computation

Question 40

Influences of other people

Answer 40

Rationality assumed people act individually to maximise their own benefits but sometimes people are influenced by social norms, known as bias.

“Herding behaviour” occurs when an individual copies the actions of a large group.

Question 41

Influence of habitual behaviour

Answer 41

Habits reduce the time it takes to do something because consumers no longer have to consciously think about their actions.

Habits create a barrier to decision making since they limit or prevent customers considering an alternative. (Includes addictions)

Another habit many consumers have is buying their products at eye level so supermarkets tend to keep higher priced products near the top and lower price products lower.

Question 42

Consumer weakness at computation

Answer 42

Many consumers aren’t willing or able to make comparisons between prices and so they will buy more expensive goods than needed. E.g buying multipack because they assume it’s cheaper but it’s not always.

Also consumers are poor at self-control and so do things they shouldn’t or make decisions without looking at the long term effects so make irrational decisions.