Topic 11

Question 1

define utilty

Answer 1

the enjoyment or satisfaction people receive from consuming goods and services or from having the opportunity to consume (wealth)

Question 2

what are a few assumptions of traditional consume theory

Answer 2

people seek to maximise utility
people are rational as they make choices that align with utility maximisation. (full info, perfect foresight, able to process info and act in self interest)

Question 3

what is diminishing marginal utility of consumption

Answer 3

utility decreases when consumption increases but at a DECREASING RATE

Question 4

define marginal utility and state when utility is maximized, when MU is greatest and when MU is smallest

Answer 4

change in utility from the last unit consumed. Eventually MU approaches 0 or goes from being pos to negative.
Maximised when MU of last unit consumed = 0 or just before it becomes negative
MU greatest for first unit
MU smallest for last unit

Question 5

how is MU applied in reality. what do economists care

Answer 5

economists are concerned with how people choose between alternative consumption bundles with constrained resources (income) and therefore constrained choices as they must allocate resources across g/s each of which yield specific utilities which diminish at specific rates

Question 6

when is MU allocatively efficiency

Answer 6

income should be allocated where they yeild the greatest MU per dollar spent

Question 7

define consumer equilibrium and write down the formula

Answer 7

where utility is maximised given the budget constraints. Occurs when MU per dollar spent is the same for all goods or alternatively when ratio of MUs = ratio of price

Question 8

what is the MRS (ratio of MUs) and what does it represent

Answer 8

the rate at which you’d be willing to swap one good for another at a particular price point in time (ignoring prices). Represents needs, wants, benefit, utility and preferences which change with consumption

Question 9

what is the ratio of prices and what does it represent

Answer 9

price of one good expressed in terms of another or how many you’ll give up of one to get the other. represents costs (does not change with C)

Question 10

what do behavioural economists believes

Answer 10

economic behaviour is based on a set of assumptions about how the representative (rational) individuals make choices, deal with uncertainty and respond to incentive

Question 11

what are 7 conclusions from behavioural economics

Answer 11

1. Loss Aversion: People avoid the risk of losses as it is greater than bliss of equal gain
2. Endowment Effect: property rights increases value to people
3. Monetary Rewards: don’t always increase effort/performance (psycho)
4. Framing Effects: people’s preferences are influenced by how they are presented
5. Peak End Rule: experiences is most affected by peak of sensation and sensation at end of experience.
6. Hyperbolic Discounting: any delay of pleasure from now is costly but indifferent in a few days.
7. Preferences for Fairness: peoples value fairness even if they are worse off

Question 12

describe what a nudge policy is

Answer 12

policy designed to structure choices so that people make right choice. They don’t impose restriction only incentive