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How Economists Think

In: Business and Management

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ECONOMICS
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WEEK 1: HOW ECONOMISTS THINK * What are preferences?
Preferences refer to all of the objectives an individual wants to achieve that might motivate a choice among a set of alternatives.

* What does it mean for an individual’s preferences to be rational? Please explain the concepts of costs and benefits and the reasoning process used by a rational individual.

A rational individual will try to make the best possible use of his/her scarce resources, usually choosing an activity that has the highest utility. Rational preferences possess 2 properties, which are completeness and transitivity. Completeness means that choices can be ranked in an order of preference. For instance, an individual will have a preference when faced with two choices. Transitivity means actions can be compared with other actions. As an example, if action a is preferred to b, and action b is preferred to c, then a is preferred to c.

A benefit is the maximum unit of currency amount you would be willing to pay to do x, while the cost is the value of all the resources you must give up in order to do x. The cost-benefit approach to decisions states that an individual should do an activity x if the benefit exceeds the cost. Relating to cost, in the process of coming up with a decision, a rational individual will take into account opportunity costs and ignore sunk costs.

* New theories argue that people are not always rational. On what grounds? What are the implications for Policy making?
The arguments where people are not rational can be explained in the following conditions: 1. Economic theories state that people are homo economicus that always act on their own preferences. In short, individuals are selfish. However in reality, the well-being of others could also enter into an...

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