Thinking Like an Economist

Question 1

What three things can be maximised in order to increase societal welfare?

Answer 1

• Production
• Consumption
• Distribution

Question 2

What is the trade-off between realism and tractability?

Answer 2

• More realistic individuals make models messy and difficult to work with
• Making the model realistic enough, whilst still leaving things out (assumptions)

Question 3

Name the 4 Criticisms of Economics as a social science

Answer 3

• Partial Equilibrium Vs. General Equilibrium (Isolating one single part of the system)
• Holding things constant due to Ceteris Paribus (Ignoring important changes)
• Lack of external validity (Overgeneralising by applying old rules)
• Wrong measure of society wellbeing (Normative analysis focusing on the wrong objective)

Question 4

What is the Difference between a Normative and a Positive statement?

Answer 4

• Positive is a statement that can be backed up by facts and has a definitive answer
• Normative is a statement that is based on value judgement and does not have a definitive answer

Question 5

When should an economic agent make the decision to act?

Answer 5

• B(x) > C(x)
• N(x) = B(x) - C(x) {>0}
• Where B(x) is the benefits of option x, C(x) is the costs of option x and N(x) is the net action of x

Question 6

What is included when mentioning costs of an action x?

Answer 6

• Financial costs
• Opportunity costs
• Time costs

Question 7

What is assumed when consumers make a decision?

Answer 7

• Assume all consumers are rational
• They have perfect information and perfectly weigh up costs and benefits to all
• Has no biases and makes no mistakes

Question 8

Name the 4 mistakes associated with consumers not making optimal decisions

Answer 8

• Irrational consumers ignore implicit costs
• Not being able to recover costs that have already been paid (Sunk Costs)
• Costs and benefits should always be measured in monetary terms, not as a proportion
• Confusing average and marginal costs