Individual economic decision-making

Consumer behaviour

Decisions made based on maximising utility.

Rationale consumer behaviour

Consumers make all choices independently.

Consumers have fixed and consistent preferences.

Consumers have full information.

Consumers always make the optimal choice given their preferences.

Law of diminishing marginal utility

As a consumer buys and consumes more units of a good, the extra satisfaction gained diminishes. This means at higher quantities , consumers are less willing to pay a higher price, explaining the downward sloping demand curve.

Total utility

The total satisfaction a consumer gets from purchasing units of a good. Rational consumers aim to maximise their utility.

Marginal utility

The change in total utility from consuming an extra unit of a product.

Importance of the margin when making choices

Rational consumers make decisions by calculating the marginal cost (change in total cost when one more unit is bought) and marginal benefit (change in total when one more unit is consumed)

Information failure

Occurs when people have inaccurate, incomplete, uncertain or misunderstood data and so make potentially ‘wrong’ choices

Information gaps

Exists when either the buyer or seller does not have access to the information needed for them to make a fully informed decision, leading to misallocation of resources = market failure.

Symmetric information

For market to work, buyers and sellers need to have the same perfect information

Asymmetric information

Buyers and sellers have different amounts of information.

Adverse selection

People taking out insurance are those often at highest risk.

Moral hazard

Being insured can make you more careless

principal agent problem

goals of the principals, those who lose/gain from a decision, are different from the agents, those making the decisions.

Policies to address information failure/gaps

Compulsory labelling on products

Improved nutritional information on food/drinks

Hard-hitting anti-speeding advertising

Campaigns to raise awareness of risks of drink-driving/drug abuse/smoking/vaping

Performance league tables for schools/school inspections

consumer protection laws

Industry standards and guarantees for selling used products.