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Summary book - Microeconomics and Behaviour - UEC10406
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Summary of all the chapters we had to study for the course uec10406
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Chapter 1:Boek link:
https://prod.reader-ui.prod.mheducation.com/epub/sn_2c8d/data-uuid-7117c9c22fe448
4aace3624b776c3fa5
Cost benefit approach:
Benefits of x > costs of x. Then you should do x.
Benefits: The maximum monetary amount you would be willing to pay.
Costs: The value of all the resources you must give up to do x.
Reservation price: The price at which a person would be indifferent between doing or not
doing x. (The minimum amount it would take to get you out of a chair to turn down
music)
Opportunity costs: the opportunity cost of an activity is the value of all that must be
sacrificed in order to do the activity.
Criticism:
Unrealistic assumptions about how people behave.
Response to criticism: people do not calculate explicitly, but it is useful to make
predictions. Useful insight into our behaviour can be gained by assuming that we act as
if governed by the rules of rational decision making. By trial and error we eventually
absorb these rules, just as pool players absorb the laws of physics.
Common pitfalls in decision making:
1. Overlooking opportunity costs.
Opportunity costs: if doing x means you are not able to do Y. The value of Y is the
opportunity cost. (the value of the most attractive alternative you will forgo.)
2. Failing to ignore sunk costs
Sunk costs: a cost that is beyond recovery when a decision is made.
Ex. 1.1: if the expected gain would have been 7000, this would have been lower than
the costs to finish the job. Therefore your answer would be not to move.
Ex 1.2: Mike will be more likely to go, since he has paid 18 euros for the ticket.
3. Measuring costs and benefits as proportions rather than absolute monetary
amounts.
You can save ten euros for a 20 euro clock by walking 15 minutes → people will do this.
You can save ten euros for a 1010 euro television → people will not do this.
When using the cost-benefit test, you should express costs and benefits in absolute
terms. Comparing percentages is not a fruitful way to think about decisions like these.
Ex 1.3: Use the coupon to get 120 euro off the normal 2400 euro airfare to New Delhi,
since 120 is more than 100.
4. Failure to understand the average-marginal distinction
Marginal cost: The increase in total cost that results in performing one additional activity.
,Marginal benefit: The increase in total benefit that results in performing one additional
activity.
Average cost: the average cost of undertaking n units of an activity is the total cost of
the activity divided by n.
Average benefit: the average benefit of undertaking n units of an activity is the total
benefit of the activity divided by n.
Ex 1.4: Tom should launch two more boats. Since the daily marginal benefit of 180 > the
marginal cost of 150.
Ex 1.5: If the call rate would drop until 2 cents per minute, she would spend 600
minutes on the phone.
Homo economicus: personal material costs and benefits are the only thing they care
about.
Positive vs. normative questions:
Positive question:
- definitive answer
- consequences of policies or institutional arrangements.
Normative question:
- No definitive answer
- what policies etc. lead to best outcomes
- involve value judgements (what is important?)
Exercises
Questions for review:
1. 80 euros, ik kan niet trainen dan
2. No, sunk costs
3. X huh?
4. because they have higher experience and give up a higher income.
5. because you can not get them back either way.
6. X it can predict.
Problems:
1. a, yes. b, yes. c, no
2. x
3. x
4. 1100+1200+200 :10 = 250 → drive
5. 7 x 10 = 70 euro
6. 0.06 x 1000 = 60 euro
10. 3 x 2 euro = 6 but probably go down
11. 4 gigabytes
16. ligt eraan wat je waarde is voor de Yaris, true
Artikel 1:
Economics traditionally conceptualizes a world populated by calculating, unemotional
maximizers that have been dubbed Homo economicus.
This traditional way has advantages:
- easier to formalize
, - practically more relevant
Three unrealistic traits:
Unbounded rationality
Examples: loss aversion and mental accounting.
Bounded rationality: We cannot be expected to solve difficult problems optimally. It is
eminently rational for people to adopt rules of thumb as a way to economize on cognitive
faculties.
Unbounded willpower/self-control
People are aware that they do not have self control.
Unbounded selfishness
Economists stress self-interest as people’s primary motive. → kind of true but people
also give to charity, do volunteer work and choose to take nothing in a prisoner's
dilemma to make sure the opponent also gets nothing instead of choosing the money
offered to them.
Surprising success of behavioural finance because of:
1. Generated sharp, testable predictions about observable phenomena.
2. High-quality data are readily available to test these sharp predictions.
The rational efficient markets hypothesis
1. states that stock prices are “correct” .
in the sense that asset prices reflect the true or rational value of the security
a. not true because: untestable because intrinsic values are not observable.
2. unpredictability
a. violation: individuals tend to overreact to new information. for example,
people tend to underweight base rate datain incorporating new data. So
businesses that did not do well in the past will have prices lower than they
should be and the other way around.
hyperbolic discounting: individuals typically show very sharp impatience for short-horizon
decisions, but much more patience at long horizons.
exponential discounting: People are equally patiënt at short and long horizons.
Chapter 2
Market: a market consists of buyers and sellers of a good or service.
One important measure of competition = market share
Demand curve: How much buyers want to purchase for each possible price
- vertical axis= real prices
- horizontal axis= quantity corresponding to the price
Supply curve: How much suppliers want to supply for the price
Real price: it’s price relative to the prices of other goods and services.
Horizontal interpretation of demand curve:
Describes the curve as a schedule of how much of a product consumers purchase at
which price. (start at the vertical axis, then look horizontal).
, Vertical interpretation of demand curve:
Reading the inverse demand curve, start looking at the quantity horizontal and then get
the reservation price vertical.
Inverse demand curve: tells us the price at which buyers would demand specific
quantities of the product.
Law of demand: Downward slopes, the lower the price the higher the demand/ the
demand falls when prices rise.
Law of supply: upward slope the higher the price the higher the supply.
Reasons that demand falls when price rises:
1. People buy close substitutes instead.
2. People are unable to buy as much.
Reasons the supply increases when the price rises:
1. increased production is only profitable at higher prices
2. substitution on the part of flower growers
Equilibrium quantity and price
The price-quantity pair at which sellers and buyers are satisfied.
Satisfied: buyers want to buy given the price they face.
Excess supply (surplus)/demand (shortage): The amount of supply more than demand
or the amount of demand more than supply.
Pareto efficiënt: Outcome where it is not possible to make someone better without
harming someone else.
If the price and quantity are not in equilibrium it will always be possible to make
someone better without making others worse.
Consumer surplus: a monetary measure of the extent to which a consumer benefits from
participating in a transaction
Producer surplus: the monetary amount by which a firm benefits by selling output
Price ceiling: a level beyond which prices are not permitted to rise.
Price floors: a way to keep prices above the equilibrium. a minimum price for a good
established by law and supported by the government's offer to buy the good at that
price.
Functions of prices:
1. The rationing function of price. (short run)They ration the supplies of goods,
people want more of almost anything at the price of zero. Price rations the scarce
supply to those who place the highest value on them. (mainly demand. the
consumer who is prepared to pay the most gets the good).
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