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A-Level Economics Year 1 > Microeconomics: Individual economic decision making > Flashcards

Microeconomics: Individual economic decision making Flashcards

1
Q

What is rational decision-making?

A

People use all the information available to them
People try to maximise total satisfaction
People make independent choices
Consumers have stable performance

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2
Q

What is rational choice theory?

A

We assume people maximise the satisfaction they get from spending a limited budget.

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3
Q

What challenged the rational choice theory?

A

The behavioural revolution by highlighting how people often make decisions that are not fully rational and are influenced by emotional, cognitive, and social factors.

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4
Q

What is utility?

A

The satisfaction/benefit that a person gets from consuming a good/service.
measured via “utils”

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5
Q

What is perfect information?

A

People are aware of all the options and the consequences of those options and make decisions accordingly.

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6
Q

What is imperfect information?

A

People may not be aware of all the alternatives available leading to suboptimal decisions.

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7
Q

What is homo economics?

A

Calculating every cost and benefit
Can compute probabilities
Feel no emotion/regret

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8
Q

What is irrational behaviour?

A

People make systematic and persistent deviations from rational choice. e.g. emotional decision-making

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9
Q

What is herd mentality?

A

People follow the crowd without thinking critically about their own preferences. e.g. buying the latest iPhone

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10
Q

What is risk-averse/risk-seeking behaviour?

A

Where people make choices based on their emotional reactions to risk rather than a rational assessment e.g. skydiving, being scared of aeroplanes

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11
Q

Why may we question the assumption of rationality?

A

We have a limited availability to calculate
Social networks influence choices
Emotion often overtakes logic
Altruism (thinking about others) can overtake pure self-interest
We often have a desire for instant rewards
People often stick to default choices

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12
Q

What is loss aversion?

A

The idea that people are more sensitive to losses than to equivalent gains.

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13
Q

What is anchoring bias?

A

People tend to focus on an initial piece of information (the “anchor”) and then base their decisions around the anchor, even if it’s not the most relevant/important piece of information.

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14
Q

What does anchoring bias cause?

A

It causes people to feel like they’re losing out if they stray away from the initial anchor.
Bargain hunting (people often compare a sale price to the original price of an item and think they’re getting a great deal)
Negotiation

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15
Q

What is framing bias?

A

The idea that the way information is presented can influence people’s decisions and judgments.

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16
Q

What are examples of framing biases?

A

The “dread risk” framing
The “choice” architecture framing
The decay effect
The “scarcity” effect

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17
Q

What is “dread risk” framing?

A

Presenting a risk in terms of “how many people will die” rather than “how many people will be saved” can lead to different decisions.

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18
Q

What is “choice” architecture framing?

A

Arranging options in a specific order or highlighting certain options can influence what people choose.

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19
Q

What is the decay effect?

A

Offering a less attractive option alongside two more desirable options can make one of the desirable options seem more attractive e.g. cinema popcorn.

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20
Q

What is the “scarcity” effect?

A

Highlighting limited availability can create a sense of urgency and drive people to act quickly.

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21
Q

What is habitual behaviour?

A

People develop habits around purchasing and consuming certain products and services which can influence demand.
Habits can be powerful forces in the economy because they can be difficult to break and can influence behaviour in a predictable and consistent way.

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22
Q

What are examples of cognitive biases?

A

Confirmation bias: the tendency to seek out and remember information that confirms our existing beliefs and ignore information that contradicts them.

Anchoring bias: the tendency to rely too heavily on the first piece of information we receive when deciding.

Availability bias: the tendency to give more weight to information that is easily accessible in our memory.

Overconfidence bias: the tendency to be overconfident in our own abilities and knowledge.

Sunk cost fallacy: the tendency to continue investing in something because of the resources we’ve already invested.

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23
Q

What is bounded rationality?

A

Acknowledges that people’s decision-making is limited by cognitive biases and other constraints.

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24
Q

What is consumer weaknesses at computation?

A

Consumers often don’t have the time, knowledge or inclination to make optimal economic decisions. This is due to factors such as limited cognitive resources, information overload, and bounded rationality.

25
Q

What is bounded self-control?

A

The idea that people may have difficulty controlling their own impulses and behaviours, even when they know it’s in their best interest to do so.

26
Q

What are social norms?

A

Collectively held beliefs of customs. e.g. not smoking in public places

27
Q

Why is information important?

A

Information is essential for making sound economic decisions as without it it’s impossible to properly evaluate costs and benefits or make informed choices.

28
Q

What are information gaps?

A

People have inaccurate, incomplete, uncertain, or misunderstood data and so make potentially wrong choices in markets.

29
Q

What are examples of imperfect information?

A

Risks from using tanning salons
Addiction to painkillers and other drugs
Gaining entry to top-degree courses
Reluctance to save for retirement

30
Q

What is asymmetric information?

A

Occurs when somebody knows more than somebody else in the market.
e.g. landlords, mortgages, car insurance companies, doctors

31
Q

Who invented the theory of markets under asymmetric information?

A

George Akerlof

32
Q

What is the theory of markets under asymmetric information?

A

The theory explores how markets function when one party has more or better information than the other.

33
Q

How is the “market for lemons” an example of the theory of markets under asymmetric information?

A

Buyers and sellers have different levels of information about the quality of the product being sold.
Buyers are wary of being “taken for a ride” and end up paying less for the product than it’s worth.

34
Q

How can the “lemons” problem be overcome?

A

Offer extended test drives for potential buyers
Require a full-service history
Extended car warranties to lower risk of purchase

35
Q

What are examples of interventions to improve information?

A

Health warnings
Nutritional labelling
Gamble Aware
Industry standards
Consumer protection laws
Compulsion/ changing the default

36
Q

What is the meaning of bounded rationality?

A

The idea that humans have limited cognitive resources and are unable to make completely rational decisions.

36
Q

What can information gaps lead to?

A

Sub-optimal choices and so they must rely on heuristics/rules of thumb to simplify complex decision-making processes.

37
Q

What are heuristics?

A

Mental shortcuts that we use to make decisions quickly and efficiently. Therefore, they help us make decisions without having to consider all the information available.

38
Q

What is the anchoring heuristic?

A

We rely heavily on the 1st piece of information we receive to decide

e.g. when buying a new TV, we may be more likely to buy a TV that’s on sale because it’s cheaper than the “anchor” price we saw first.

39
Q

What is price-quality heuristic?

A

Many consumers assume that higher-priced products are of better quality so, they choose a more expensive brand, believing it will offer superior performance or durability.

40
Q

What is familiarity heuristic?

A

Consumers often choose brands/products they are familiar with because they feel a sense of comfort and trust.

41
Q

What is brand loyalty heuristic?

A

Many consumers stick with the same brand for years, if their preferred brand consistently delivers quality and satisfaction.

42
Q

What is availability heuristic?

A

When consumers recall instances of a product or brand readily, they are more likely to choose it.

43
Q

What is behavioural economics?

A

Humans are not always rational and can be influenced by a range of factors e.g. emotions, biases, and social pressures.

44
Q

According to Daniel Kahneman, what are the 2 systems of thinking?

A

System 1- fast, intuitive, and can lead to cognitive biases and errors in decision-making.
System 2- slower, deliberative

45
Q

What bias did Daniel Kahneman identify?

A

The availability heuristic because we overestimate the likelihood of events based on how easily they come to mind.

46
Q

What is Daniel Kahneman’s theory of prospect?

A

People make decisions based on the potential gains or losses than they are to pursue a gain.

47
Q

What does Richard Thaler highlight?

A

The influence of psychology and social factors on economic decision-making.

48
Q

What is mental accounting?

A

People often make financial decisions based on mental categories/ “accounts” rather than strictly rational calculations.

49
Q

What is the endowment effect?

A

People tend to value items they own more highly than individual items they don’t own.

50
Q

What is nudging?

A

Using small, subtle design changes to “nudge” people towards better decisions
e.g. defaulting people to contribute to a retirement/ account, making healthy food more accessible by changing choice architecture.

51
Q

What is libertarian paternalism?

A

A policy approach that combines 2 seemingly contradictory ideas: freedom of choice and nudging people towards certain choices.

52
Q

What is nudge?

A

A technique used by choice architects to change someone’s behaviour in an easy and low-cost way, without reducing the number of choices available.

53
Q

What is choice architecture?

A

The design of choices and how they are presented to people. It recognises that the way choices are presented can influence people’s decisions. e.g. menu design

54
Q

What is choice architecture as a nudge?

A

Getting more people to use the salad bar at lunch
Traffic flow is influenced by road architecture
How can we encourage people to avoid the lift
How best to get people to use hand sanitizer

55
Q

What do commitment contrasts devices do?

A

Reinforce decisions to adopt healthful behaviours. They might impose a penalty if people do not reach a goal.

56
Q

What is mandated choice?

A

A situation/scenario in which people must decide in advance with respect to whether they wish to participate in a particular action- they are required by law to make that choice.
e.g. use of masks during the pandemic

57
Q

What is the “East” framework for behavioural nudges?

A

Easy
Social
Attractive
Timely

58
Q

What are the limitations to the use of behavioural nudges?

A

Only produce short-term ( temporary) changes or may not work in all situations.
Paternalistic/ manipulative because it involves influencing people’s behaviours without their explicit consent.
Context-dependency
May not work in the real world

A-Level Economics Year 1 (10 decks)

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