Economic Decision Making

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Questions and Answers

What is the primary goal of a rational choice?

To compare benefits and costs

To maximize benefits

To achieve the greatest benefit over cost (correct)

To minimize costs

What determines the benefit of a good or service?

Preferences (correct)

Scarcity

Opportunity cost

Macroeconomic conditions

What is the opportunity cost of a decision?

The highest-valued alternative that must be given up (correct)

The monetary cost of a good or service

The cost of producing a good or service

The benefit of a good or service

What is involved in making a choice at the margin?

Evaluating the consequences of making incremental changes Signup and view all the answers

What is the fundamental problem of economics that rational choice helps to solve?

What goods and services to produce and in what quantities Signup and view all the answers

What is the primary factor that influences an individual's preferences?

Personal values Signup and view all the answers

How do people make rational decisions?

By comparing benefits and costs Signup and view all the answers

What is the term for the benefit gained from pursuing an incremental increase in an activity?

Marginal benefit Signup and view all the answers

What is the purpose of evaluating the consequences of making incremental changes in resource allocation?

To make a choice at the margin Signup and view all the answers

What happens when the marginal benefit from an incremental increase in an activity exceeds its marginal cost?

Your rational choice is to do more of that activity Signup and view all the answers

What is the result of a change in marginal cost or a change in marginal benefit?

A change in incentives Signup and view all the answers

What is the central idea of economics?

That we can predict how choices will change by looking at changes in incentives Signup and view all the answers

What type of statement can be tested by checking it against facts?

Positive statement Signup and view all the answers

What is the task of economic science?

To discover positive statements that are consistent with what we observe Signup and view all the answers

What is an economic model?

A description of some aspect of the economic world that includes only necessary features Signup and view all the answers

How is an economic model tested?

By comparing its predictions with the facts Signup and view all the answers

What is one way to reduce your carbon footprint according to the text?

Riding a bike Signup and view all the answers

What is the result of banks and people making lending and borrowing choices in self-interest?

Financial stress and instability Signup and view all the answers

What is a key idea in the economic way of thinking?

People make rational choices by comparing benefits and costs Signup and view all the answers

What is the implication of scarcity in the economic way of thinking?

Choice is necessary Signup and view all the answers

What is an example of a tradeoff in the text?

Deciding whether to study or have fun on a Saturday night Signup and view all the answers

What is the term for the value of the next best alternative that is given up when making a choice?

Opportunity cost Signup and view all the answers

How do choices respond to incentives according to the economic way of thinking?

They are influenced by incentives Signup and view all the answers

Study Notes

The Economic Way of Thinking

A rational choice is one that compares costs and benefits and achieves the greatest benefit over cost for the person making the choice.
Only the wants of the person making a choice are relevant to determine its rationality.
The idea of rational choice provides an answer to the first question: What goods and services will be produced and in what quantities? The answer is: Those that people rationally choose to buy!

Benefits and Costs

The benefit of something is the gain or pleasure that it brings and is determined by preferences.
Preferences are what a person likes and dislikes and the intensity of those feelings.
The opportunity cost of something is the highest-valued alternative that must be given up to get it.
Opportunity cost has two components: the things you can’t afford to buy and the things you can’t do with your time.

Choosing at the Margin

A choice is not all or nothing, but you must decide how many minutes to allocate to each activity.
To make a choice at the margin, you evaluate the consequences of making incremental changes in the use of your time.
The benefit from pursuing an incremental increase in an activity is its marginal benefit.
The opportunity cost of pursuing an incremental increase in an activity is its marginal cost.

Choices Respond to Incentives

A change in marginal cost or a change in marginal benefit changes the incentives that we face and leads us to change our choice.
Incentives are also the key to reconciling self-interest and the social interest.

Economists distinguish between two types of statement: positive statements and normative statements.
A positive statement can be tested by checking it against facts.
A normative statement expresses an opinion and cannot be tested.

Unscrambling Cause and Effect

The task of economic science is to discover positive statements that are consistent with what we observe in the world and that enable us to understand how the economic world works.
Economists create and test economic models.
An economic model is a description of some aspect of the economic world that includes only those features that are needed for the purpose at hand.

Two Big Economic Questions

Between 1993 and 2007, the U.S. and global economies expanded strongly, with incomes increasing by 30 percent in the United States and tripling in China.
The choices of banks to borrow and lend and the choices of people and businesses to lend to and borrow from banks are made in self-interest.

The Six Key Ideas of the Economic Way of Thinking

A choice is a tradeoff.
People make rational choices by comparing benefits and costs.
Benefit is what you gain from something.
Cost is what you must give up to get something.
Most choices are “how-much” choices made at the margin.
Choices respond to incentives.

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Description

This quiz covers the concept of rational choice in economics, where individuals make decisions based on comparing costs and benefits to achieve the greatest benefit over cost.