1.2.1 Rational decision making

• consumers aim to maximise utility
• firms arm to maximise profit
• government aim to maximise social welfare
• assumption of rational economic decision making

  • consumers aim to maximise utility
  • firms aim to maximise profit
  • governments aim to maximise social welfare
• the rational consumer is homo economicus, who makes decisions by calculating utility gain from each decision and chooses the one that gives them the most satisfaction
• utility is satisfaction gained from consuming a product
• economic theory assumes firms are run for their owners and shareholders, so aim to maximise profits to keep share holders happy
• governments work for public and were voted in by public so should aim to increase their utility by taking decisions which increase social welfare
• however questioned by behavioural economists as economic agents don't always have necessary information to act rational and consumers dont always make calculated decisions
• COA

  • Firms seek to maximize profits.
  • This drives them to cut costs or increase efficiency.
  • Leads to lower prices or better products for consumers.
  • Enhances market competitiveness.
• • Consumers experience diminishing marginal utility.
  • They stop purchasing when marginal utility falls below price.
  • Leads to rational allocation of income to maximize satisfaction.
• 1. Governments impose taxes on demerit goods (e.g., cigarettes).
  2. Higher prices reduce demand due to rational decision-making.
  3. Leads to improved public health and lower external costs.
• Explain how a government subsidy for renewable energy might align with rational decision-making by firms.

  1. Subsidy reduces the cost of production for renewable energy firms.
  2. Increases profitability for producing clean energy.
  3. Firms allocate resources toward renewable energy to maximize profits.
  4. Aligns with social welfare objectives like reducing carbon emissions.
• What is the concept of economic incentives?Factors that motivate or influence economic agents to make decisions, such as price changes, subsidies, or taxes.
• What is irrational decision-making?When agents act in a way that does not maximize their utility or profits, often due to emotions, habits, or biases.