Section 1 - The Economic Problem

Question 1

What do economists do to compensate for being unable to control one variable at a time?

Answer 1

To get around the problem of the existence of multiple variables in an economy, economists use the assumption known as ceteris paribus.

Question 2

Ceteris Paribus - definition

Answer 2

Latin for ‘all other things remaining equal’.

Question 3

When do economists use ceteris paribus?

Answer 3

> When they are looking at the relationship between 2 factors.
E.g. price and demand.
They’ll assume only these 2 factors change and all other factors (income, changes in taste) that would have an effect on any other variable being considered remain the same.

Question 4

What do economists use ceteris paribus for?

Answer 4

To develop theories and models, and make predictions.

Question 5

Economic decision vs economic sense

Answer 5

> Economic decisions might not always make economic sense.
Economics deals with real people so keep in mind decisions made by individuals, firms or governments will often be based on opinions or judgements.

Question 6

What might decisions be based on?

Answer 6

1. Normative statements.
2. Moral views and value judgements.
3. Political judgements.
4. Short-term positive consequences.

Question 7

Moral views and value judgements

Answer 7

E.g. the view that people shouldn’t live in poverty, so wealth should be shared.

Question 8

Political judgements

Answer 8

E.g. lowering taxes may win votes for government.

Question 9

Short-term positive consequences…

Answer 9

of a decision, regardless of long-term consequences.
E.g. reducing taxes may win an election, but it will reduce the government’s income and may lead to public spending cuts.

Question 10

How many types of economic statements are there?

Answer 10

2

Question 11

What are the 2 kinds of statements you can make in economics?

Answer 11

1. Positive Statements

2. Normative Statements

Question 12

Positive statements

Answer 12

> Are objective statements that can be tested by referring to the available evidence.
E.g. “a reduction in income will increase the amount of people shopping in pound shops”.
With suitable data collected over a period of time, you should be able to tell if the above claim is true or false.
Positive claims are important because they can be tested to see whether economic ideas are correct.

Question 13

Normative statements

Answer 13

> Are subjective statements which contain a value judgement - they’re opinions.
E.g. “the use of fossil fuels should be taxed more highly than the use of renewable fuels”.
It’s not possible to say whether the above statement is true or not - only whether you agree or disagree with it.
Normative statements are also important because value judgements influence decision-making and government policy, e.g. party may increase taxes on rich and distribute to poor.

Question 14

Short definition of economics

Answer 14

How best to satisfy infinite desires using limited resources.

Question 15

What is the fundamental economic problem?

Answer 15

> There’s only a limited amount of resources available to satisfy infinite desires.
i.e. resources are scarce.

Question 16

The basic economic problem

Answer 16

How can the available scarce resources be used to satisfy people’s infinite needs and wants as effectively as possible?

Question 17

Factors of production - explaination

Answer 17

> The scarce resources (inputs) used to make the things people want and need (outputs) can be divided into four factors of production.
Individuals and firms are rewarded dor providing these factors e.g. with a wage or rent.

Question 18

What are the factors of production?

Answer 18

1. Land
2. Labour
3. Capital
4. Enterprise

Question 19

Factors of production - Land

Answer 19

> Including all the natural resources in and on it.
As well as actual ‘territory’, land includes all the Earth’s natural resources.
Nearly all things that fall under the category of land are scarce - there aren’t enough natural resources to satisfy the demands of everyone.
One exception is air, but even this isn’t as simple as it first looks.

Question 20

Earth’s natural resources

Answer 20

> Non- renewable resources, such as natural gas, oil and coal.
Renewable resources like wind or tidal power, or wood from trees.
Materials extracted by mining (e.g. diamonds and gold).
Water.
Animals found in an area.

Question 21

Land - air

Answer 21

> Air isn’t usually considered a scarce resource as there’s enough for everyone.
But doesn’t mean all air is equally good - polluted air.
In fact, the environment is considered by some people to be a scarce resource.
It’s a free good.

Question 22

Free good

Answer 22

> Something that is not scarce or has no price, such as atmosphere, sunlight, or gravity; something that can be obtained at no cost.
Impossible to sell it.

Question 23

Economic good

Answer 23

> Things that are scarce and which can therefore be traded.

Question 24

Factors of production - labour

Answer 24

> Labour is the work done by those people who contribute to the production process. The population who are available to do work is called the labour force.
There’s unemployed.
Also there’s people who aren’t in paid employment but still provide things people need or want, e.g. homemakers.
Different people have different levels of education, experience or training. These factors make some people more ‘valuable’ or productive than others - they have a greater amount of human capital.
UK - no. of working age with a job is arounf 30 million.

Question 25

Labour force - definition

Answer 25

> The population who are available to do work is called the labour force.

Question 26

Unemployed

Answer 26

People who are capable of working and are old enough to work, but don’t have a job.

Question 27

Human capital

Answer 27

> the skills and knowledge gained by a worker through education, experience and training.
These factors can make some people more ‘valuable’ or productive in the workplace than others - they have a greater amount of human capital.

Question 28

Factors of production - capital

Answer 28

> Capital is the equipment, factories and schools that help to produce goods or services.
Capital is different from land because capital has to be made first.
Much of an economy’s capital is paid for by the government - e.g. a country’s road network is a form of capital.

Question 29

Factors of production - enterprise

Answer 29

> Enterprise: willingness to take a risk to make a profit.
Enterprise refers to people (entrepreneurs) who take risks and create things from the other three factors of production.
They set up and run businesses using any of the factors of production available to them.
If the business fails, they can lose a lot of money. But if the business succeeds, the reward for risk-taking is profit.

Question 30

What does scarcity require?

Answer 30

The careful allocation of resources.

Question 31

Economic activity

Answer 31

> Economic activity involves combining the factors of production to create outputs that people can consume.
The purpose of any economic activity is to increase people’s economic welfare by creating outputs that satisfy their various needs and wants.
In economics a wide range of things count as economic activity.

Question 32

Examples of economic activiy

Answer 32

1. The making of goods and the provisions of services (i.e. creating outputs).
2. Consumption (i.e. buying or using) is also a form of economic activity. When you consume something, you’re trying to satisfy a need or a want. You can consume both goods and services.
3. DIY, bringing up children (even though you might not get paid for it).

Question 33

Goods - definition

Answer 33

‘Physical’ products you can touch - such as washing machines, books or a new factory.

Question 34

Services - definition

Answer 34

‘Intangible’ things - such as medical check-ups, teaching or train journeys.

Question 35

What leads to the three fundamental questions?

Answer 35

An endless array of things that could be produced and consumed, but only limited resources, this leads to three fundamental questions.

Question 36

What are the 3 fundamental questions?

Answer 36

1. What to produce?
2. How to produce it?
3. Who to produce it for?

Question 37

Agents - definiton

Answer 37

particitipants

Question 38

Agents - types

Answer 38

> Agents in an economy can usually be thought of as:

1. Producers - firms or people that make goods or provide services.
2. Consumers - people of firms who buy the goods and services.
3. Governments - a government sets the rules that other participants in the economy have to follow, but also produces and consumes goods and services.

Question 39

Economic agents

Answer 39

> Have to make decisions on how resources are allocated.
In a market economy, all economic agents are assumed rational, which means they’ll make the decisions that are best for themselves.
These decisions will be based on economic incentives, such as making profit or paying as little as possible for a product.

Question 40

What helps try to answer the fundamental questions?

Answer 40

> Considering people’s incentives.
1. What to produce? This will be those good that firms can make a profit from.
2. How to produce it? Firms will want to produce the good in the most efficient way they can, in order to maximise their profits.
3. Who to produce it for? Firms will produce goods for consumers who are willing to pay for those goods.
So in effect consumers decide what is to be produced. Producers won’t want to produce things that nobody wants to buy.

Question 41

Examples of economic agents decisions on resource allocation

Answer 41

> Producers: decide what to make, and how much they’re willing to sell it for.
Consumers: have to decide what they want to buy, and how much they are willing to pay for it.
Governments: have to decide how much to intervene in the way producers and consumers act.

Question 42

PPF

Answer 42

> Production possibility frontiers (PPFs) - also known as production possibility curves (PPCs) or production possibility boundaries (PPBs) - show the maximum amount of two goods or services an economy can produce.

Question 43

What do Production Possibility Frontiers show?

Answer 43

> The basic problem in Economics is how best to allocate scarce resources.
A PPF shows the options that are available when you consider the production of just two types of goods or services.

Question 44

PPF example

Answer 44

> They show the maximum possible output that can be made using the existing level of resources in an economy.
Points on the curve are achievable however, only when all the available resources are used as efficiently as is actually possible.
There’s a trade-off between the x and y-axis as to do more of one, you have to do less of the other.
All the different points on the PPF represent a different choice about how to use the available scarce resources.

Question 45

What is a trade-off? PPF.

Answer 45

> A trade-off is when you have to choose between conflicting objectives because you can’t achieve all your objectives at the same time.
It involves compromising, and aiming to achieve each of your objectives a bit.
Involves an opportunity cost.

Question 46

Points on the PPF…

Answer 46

> Are productively efficient because all resources are used as efficiently as possible to produce the maximum possible output.
However, not all points on the PPF are allocatively efficient because not all points will reflect the production of goods that people want or need.
E.g. if all resources are used to produce one thing, this might not match society’s need for the other thing.

Question 47

Points outside the PPF…

Answer 47

> Aren’t achievable using the current level of resources in the economy.
Extra (or better) resources would need to be found.

Question 48

Points inside the PPF…

Answer 48

> This means making this mix of goods is productively inefficient.

Question 49

What do all the different points on the PPF represent?

Answer 49

> A different choice about how to use the available scarce resources.

Question 50

Opportunity cost - definition

Answer 50

> The opportunity cost of a decision is the next best alternative that you give up in making that decision.

Question 51

Opportunity cost - information

Answer 51

> Ensures a more efficient allocation of resources.
E.g, consumers use the concept to choose what to spend their income on; producers use it to look at the profit forgone by not making alternative product; and the governments use it to look at the lost value to society from the policies they choose not to implement.

Question 52

What are the problems with the concept of opportunity cost?

Answer 52

> Often, not all alternatives are known.
There may be a lack of information on alternatives and their costs.
Some factors don’t have alternative uses.
Some factors (e.g. land) can be hard to switch to an alternative use.

Question 53

Changes to PPF

Answer 53

> A PPF shows what’s possible using a particular level of resources.
If this level of resources is fixed, then movements along the PPF just show a reallocation of those resources.
However, if the total amount of resources changes, then the PPF itself moves.
E.g. increased resources (increase in number of workers) would mean that the total possible output of that economy would also increase - so the PPF shifts outwards.

Question 54

PPF - economic growth

Answer 54

> An outward shift in the PPF shows economic growth.
Improved technology or improvements to labour (e.g. through training) can also shift the PPF outwards, because it allows more output to be produced using the same resources.

Question 55

PPF - negative economic growth

Answer 55

> When fewer total resources are available (e.g. after some kind of natural disaster), the opposite happens - the PPF shifts inwards, showing that the possible output has shrunk.
This shows negative economic growth.

Question 56

Unequal shift in PPF.

Answer 56

> Sometimes the PPF could shift unequally.
For example, the possible output may have grown because of improved technology. However, this particular technology can only help with “house building” which sits along x-axis so the PPF has been stretched in only the horizontal direction.

Question 57

Markets- definition

Answer 57

> Markets are a method for allocating scarce resources.

>Markets are a way of allocating resources. They don’t have to be a place, or involve the exchange of physical objects.

Question 58

Markets - info

Answer 58

> Each buyer or seller in a market chooses to exchange something they have for something they’d prefer to have.
For example, someone’s labour is a resource.
If they have a job, they exchange their labour for a salary.
Since everyone is considered to be rational in a free market, an economist would assume that:
1. The worker would prefer to have their wages, but less free time.
2. The employer would prefer to have less money, and to know that there’s someone there to do the work.
Exchanging things in this way eventually results in a particular allocation of resources.

Question 59

Free market

Answer 59

> A free market allocated resources based on supply and demand and the price mechanism.
In other words, anything can be sold at any price that people will pay for it.
Free market economy - pros and cons.

Question 60

What is a mixed economy?

Answer 60

> A combination of free markets and government interventions.

Question 61

Pros of a free market economy

Answer 61

1. Efficiency - as any product can bought and sold, only those of the best value will be in demand. So firms have an incentive to try to make goods in as efficient a way as possible.
2. Entrepreneurship - in a market economy, the rewards for good ideas can make entrepreneurs a lot of money. This encourages risk-taking and innovation.
3. Choice - the incentives for innovation can lead to an increase in choice for consumers. (And in a free market, consumers aren’t restricted to buying only what the government recommends.)

Question 62

Cons of a Free Market Economy

Answer 62

1. Inequalities - market economies can lead to huge differences in income - this can be controversial, since many people think particularly large differences are unfair. And in a completely free market, anyone who is unable to work (even if it’s not their fault) would receive no income.
2. Non-profitable goods may not be made - e.g. drugs to treat rare medical conditions may never sell enough for a firm to make any profit, these would not be made.
3. Monopolies - successful businesses can become the only supplier of a product - this market dominance can be abused.

Question 63

Command economy

Answer 63

> In a command (or planned) economy, it’s the government (not the markets) that decides how resources should be allocated.
Communist countries (e.g. the former USSR) have command economies, but they are much rarer since the collapse of communism in the late 20th century.
However, some still have command economies, such as North Korea.

Question 64

Pros of a Command Economy

Answer 64

1. Maximise welfare - Governments have more control over the economy, so they can prevent inequality and redistribute income fairly. They can also ensure the production of goods that people need and are beneficial to society.
2. Low unemployment - the government can try to provide everyone with a job and a salary.
3. Prevent monopolies - the market dominance of monopolies can be prevented by the government.

Question 65

Cons of a command economy

Answer 65

1. Poor decision-making - A lack of information means hat governments may make poor (and slow) decisions about what needs to be produced.
2. Restricted choice - consumers have a limited choice in what they can consume, and firms will make what they’re told to make.
3. Lack of risk-taking and efficiency - government-owned firms have no incentives to increase efficiency, take risks or innovate, because they don’t need to make profit.

Question 66

When does market failure occur?

Answer 66

> When free markets result in undesirable outcomes, e.g. traffic congestion is seen as a market failure.

Question 67

What happens when market failure occurs?

Answer 67

> Governments often intervene.
They might change the law, or offer tax breaks (e.g. reduce taxes for anyone carrying out particular activities), or create some other kind of incentive to try to influence people’s behaviour.
Governments can also intervene in the economy by buying or providing goods or services.
When both the government and markets play a part in allocating resources, this is called a mixed economy.

Question 68

The sectors in a mixed economy

Answer 68

1. Public sector
2. Private sector
   (3. There’s also a 3rd sector, known as the voluntary sector. This sector includes charities and other non-profit-making organisations.)

Question 69

In a mixed economy….

Answer 69

> The government is known as the public sector.
Businesses that are privately owned make up the private sector.
In a pure free market economy there would be no public sector and in a pure command economy there would be no private sector.

Question 70

Private sector

Answer 70

> Private-sector organisations usually have to break even or make a profit to survive.

Question 71

Mixed economy - info

Answer 71

> Most countries have a mixed economy, including the UK - there are no purely free market economies where the government doesn’t intervene in some way.

Question 72

The margin - definition + example

Answer 72

> The margin is the change in a variable caused by an increase of one unit of another variable.
E.g. the marginal cost of an ice cream is the additional cost of making one additional ice cream, i.e. it’s the cost of the final ice cream produced.

Question 73

Calculating Marginal Cost

Answer 73

> Marginal cost can be calculated by finding the difference between the total cost at the new output level and the total cost at one unit less than that.
E.g 100 ice creams = £100, 101 ice creams = £102. So the marginal cost of producing the 101st ice cream is £102-£100 =£2.

Question 74

The concept of marginal

Answer 74

> It’s important in understanding how consumers act rationally.
Examples include: marginal product, marginal revenue, marginal tax rate.
A lot of economic theory is based on the assumption that people make decisions based on marginal changes - e.g. a person will make the decision on whether to work one more hour or not, rather than decide to work at all.

Question 75

What is the concept of margin used for?

Answer 75

> For example:

• To explain price and wage differentials
• To help in the understanding of externalities
• To determine profit maximising output in perfect competition
• To assess the efficiency of different market structures, such as monopolies.
• It’s also used to explain marginal utility and rationality.

Question 76

Utility rough definition

Answer 76

‘well-being’
‘happiness’
or ‘satisfaction’

Question 77

Traditional economic theory

Answer 77

> Traditional economic theory assumes that economic agents (e.g. producers, consumers and workers) want to maximise their utility.
Different economic agents will have different ways of maximising their utility, e.g. a consumer may want to maximise their happiness, and a producer may wish to maximise their profit.
Traditional economists argue that in order to maximise utility, economic agents must act rationally. This means that they’ll make decisions based solely on trying to gain the maximum utility possible and nothing else will influence their decision making.

Question 78

What do you need to know to understand how consumers act rationally? list

Answer 78

> Marginal utility, total utility and the law of diminishing marginal utility.

Question 79

Marginal utility

Answer 79

> Marginal utility is the benefit gained from consuming one additional unit of a good.

Question 80

Total utility

Answer 80

> Total utility is the overall benefit gained from consuming a good.

Question 81

The law of diminishing utility

Answer 81

> The law of diminishing marginal utility states that for each additional unit of a good that’s consumed, the marginal utility gained decreases.
For example, each additional biscuit eaten gives the consumer less satisfaction than the previous one.

Question 82

How consumers act rationally

Answer 82

> A rational consumer will choose to consume a good at the point where marginal utility = price.
E.g. if the utility a person gains from eating a chocolate biscuit is worth 10p, then a rational consumer will pay 10p for it.
If the utility gained from consuming the second biscuit is worth 8p, then that consumer will only want to pay 8p for the second biscuit.
If the marginal utility decreases with each extra good consumed then the price a consumer is willing to pay for each extra good will decrease. It’s this law of diminishing marginal utility that explains why the demand curve slopes downwards.

Question 83

What will different economic agents have?

Answer 83

> Different economic agents will have different economic objectives, but quite often these objectives are to maximise a particular quantity (e.g. profit).

Question 84

The traditional assumptions made about the objectives of economic agents - PRODUCERS

Answer 84

> A firm’s profit is their total revenue minus their total costs.
Firms are traditionally assumed to want to maximise profit - this could be for various reasons.
But firms may want to maximise other quantities instead, such as total sales or the firm’s market share.
Some firms may also have ethical objectives - i.e. ‘doing some good’, even if it doesn’t increase profits. E.g. a firm may decide to buy all its raw materials from nearby suppliers in order to support the local economy, even if cheaper alternatives are available elsewhere.

Question 85

Why is it assumed firms want to maximise their profit?

Answer 85

1. Profit means the firm can survive - loss-making firms might eventually have to close.
2. Greater profits allow firms to offer better rewards to the owner (or shareholders) and staff.
3. Or profit can be reinvested in the business in the hope of making even more profits later. E.g. a firm might want to reinvest to expand.

Question 86

Why is it assumed firms want to maximise total sales or the firm’s market share?

Answer 86

1. A large market share could lead to some monopoly power - this would mean that the firm could charge higher prices due to a lack of competition.
2. Bigger firms are often considered more prestigious and stable, so they attract the best employers.

Question 87

The traditional assumptions made about the objectives of economic agents - CONSUMERS

Answer 87

> Consumers are traditionally assumed to want to maximise their utility, while not spending more than their income (i.e. while living within their means):
1. Utility will mean different things for different people - e.g. some people might value the security of making large pension contributions, while others might want to spend their money on things like fast cars and holidays.
2. But whatever someone spends their money on, it’s assumed they’ll act rationally to increase their utility in the way that makes most sense to them.
Consumers can also act as workers - workers are assumed to want to maximise their income, while having as much free time as they need or want.

Question 88

The traditional assumptions made about the objectives of economic agents - GOVERNMENTS

Answer 88

> Governments try to balance the resources of a country with the needs and wants of the population - i.e. economists assume that governments try to maximise the ‘public interest’.
This is likely to include some or all of the following:
1. Economic growth - usually measured by growth in a country’s GDP.
2. Full employment - everybody of a working age, who is capable of working, having a job.
3. Equilibrium in the balance of payments - a balance between the payments into the country over a period of time and the payments out.
4. Low inflation - keeping prices under control, as high inflation can cause serious problems.
In practice, these are competing objectives - policies that help achieve one objective may make it more difficult to achieve another (e.g. extra government spending may help create jobs, but it could lead to higher inflation.)

Question 89

Behavioural economics vs traditional economic theory

Answer 89

> Behavioural economics challenges traditional economic theory, which has 2 key assumptions:
1. economic agents are utility maximisers.
2. economic agents are rational.
Behavioural economists challenge these assumptions because they’re not realistic.
They look at the impact of social, psychological and emotional factors on decision making to try to make more realistic predictions about the decisions that individuals make.
Behavioural economists don’t ignore traditional economic theory - they try to improve upon it and make it more relevant to the real world.

Question 90

The concept of utility maximisation for traditional economic theory

Answer 90

> Using the concept of utility maximisation, it’s assumed that a rational individual (sometimes referred to as ‘homo economicus’) will attempt to maximise their utility (or economic profit).
They do this by comparing the costs and benefits of alternatives, and then choosing the option that maximises their net utility (or net profit).

Question 91

The concept of utility maximisation for behavioural economists

Answer 91

> Acting rationally requires all economic agents to have the information they need to be able to correctly choose between alternatives. Traditional economic theories assume that everyone has perfect (or symmetric) information and the ability to use this information to make a rational decision.
In real life, economic agents will likely have imperfect information - they won’t have all the information they need to make a rational decision and this will lead to market failure.
Asymmetric information is another problem that prevents rationality. Asymmetric information occurs when one party has more information than the other in a transaction.
As a result, behavioural economists believe that rationality alone can’t be used to predict consumer behaviour.

Question 92

Example of asymmetric information

Answer 92

> Sellers often have more information than buyers as a seller will know how much a product actually cost to make and what its true value is.

Question 93

Why do consumers not act rationally?

Answer 93

> Behavioural economists argue that there is a lot of restrictions on people’s ability to make rational decisions:

1. The time available to make a decision is limited.
2. Not all information is available, and the information that’s available may be incorrect.
3. People might not be able to process and evaluate the vasts amounts of data involved in making a decision, and they might not be very good at calculating the costs of alternatives (this is known as consumption weakness).
4. These limits on decisions making are known as ‘bounded rationality.’ Behavioural economists argue that bounded rationality means that people tend to satisfice (make a satisfactory decision) rather than spend ages trying to make a rational decision which maximises utility.

Question 94

What to behavioural economists argue?

Answer 94

> A rational individual (homo economicus) is assumed to have total self-control and will only act to maximise their utility.
However, behavioural economists argue that individuals have limits on their self-control, i.e. they have ‘bounded self-control’.
E.g. a consumer may have a limited ability to stop smoking, even though the act of smoking doesn’t maximise their utility.

Question 95

Homo economicus - definition

Answer 95

> A rational individual.

Question 96

Consumption weakness - definition

Answer 96

> People might not be able to process and evaluate the vasts amounts of data involved in making a decision, and they might not be very good at calculating the costs of alternatives.

Question 97

Bounded rationality - definition

Answer 97

> Idea that individuals have limits on their self-control.

Question 98

What stops individuals acting in an economically rational way?

Answer 98

> Biases

>Behavioural economists believe that individuals are influenced by biases which affect their decision making.

Question 99

Behavioural economics - what biases are individuals influenced by when they make a decision?

Answer 99

1. Rules of thumb.
2. Anchoring.
3. Availability bias.
4. Social norms.
5. Habitual behaviour.

Question 100

Behavioural economics - biases individuals are influenced by when they make a decision: rules of thumb

Answer 100

> Simple, useful tools that help an individual make a decision, e.g. choosing the middle-priced option when faced with a range of different prices for similar products.

Question 101

Behavioural economics - biases individuals are influenced by when they make a decision: anchoring

Answer 101

> This means placing too much emphasis on one piece of information, e.g. the first price quoted for a job can influence an individual’s view of what’s a fair price.

Question 102

Behavioural economics - biases individuals are influenced by when they make a decision: availability bias

Answer 102

> This is where judgements are made about the probability of events occurring based on how easy it is to remember such events occurring.
E.g. following a drought, people will overestimate the probability of a drought occurring the next year and make decisions based on this assumption.

Question 103

Behavioural economics - biases individuals are influenced by when they make a decision: social norms

Answer 103

> An individual’s behaviour can be influenced by the behaviour of their social group (this could be anything from a friendship group to the population of the whole world).
E.g. an individual may stop buying cigarettes because none of their friends smoke.

Question 104

Behavioural economics - biases individuals are influenced by when they make a decision: habitual behaviour

Answer 104

> Doing the same thing over and over again.

>E.g. individuals often choose to shop at the same place regardless of any rational reason for going somewhere else.

Question 105

Fairness and decision making

Answer 105

> Fairness can affect decision making.
In traditional economic theory, a rational individual may give money to charity because they gain utility from doing it (e.g. it makes them feel good).
However, behavioural economists recognise that individuals and firms don’t just act out of self-interest - they may have a sense of fairness and choose to act altruistically.
E.g, a firm may pay their employees above the minimum or market wage because they think it’s fair - they aren’t guaranteed to receive any benefit from it.

Question 106

altruistically - definition

Answer 106

> self-less, concerned for the welfare of others.

Question 107

Governments and behaviour economics

Answer 107

> Governments can use behavioural economic theory for their policies.
A government’s social and economic policies need to work in the real world and using traditional economic theories based on unrealistic assumptions might not be very useful.
As a result, governments may use behavioural economics to help them create their policies.
There are a number of observations provided by behavioural economists that can be used by governments (and by producers) to influence the decisions of individuals or firms.

Question 108

Choice architecture - defintion

Answer 108

> Choice architecture is where an individual’s choice is influenced by adapting the way the choice is presented.

Question 109

How can choice architecture be done?

Answer 109

1. Default options.
2. Framing.
3. Nudges.
4. Restricted choice.
5. Mandated choices.

Question 110

Ways of choice architecture: default options.

Answer 110

> People are more likely to choose the ‘default’ option, so this can be used to encourage individual to act in certain way.
E.g. employees might be automatically enrolled onto a pension scheme.

Question 111

Ways of choice architecture: framing

Answer 111

> The context in which information is presented can influence a decision.
E.g. changing the wording of a choice could make an option more desirable, so changing a fee of £1 a day seems more appealing than £7 a week.

Question 112

Ways of choice architecture: nudges

Answer 112

> This is where some alternatives are made easier to choose than others without removing the freedom of choice.
E.g. by only allowing smoking in certain areas, a government can ‘nudge’ people into quitting.

Question 113

Ways of choice architecture: restricted choice

Answer 113

> This occurs when people’s choices are restricted.

>E.g. people are restricted to only being able to choose from a limited number of schools in their local area.

Question 114

Ways of choice architecture: mandated choices

Answer 114

> This is where people have to make a decision.

>E.g. a government may implement a policy where people have to choose whether or not they’re willing to be organ donors.