How Economics Works

How Economics Works - How Economics Works According to...

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How Economics Works According to Thomas Mayer, there are 3 basic types of economics: o Neo-classical o Behavioural o Experimental o Forensic/Database The neo-classica l school should be fairly familiar to you. In its “strong” version, Mayer argues that it starts with the proposition that people maximize something . Economists usually call this something utility by which they mean the feelings of pleasure or well-being that we receive from goods or activities. It does not concern economists what gives people happiness or why just that it does. So we do not classify our preferences as rational or irrational. Rather we accept any preferences as long as we weigh the costs and benefits in a systematic way. The next step is to assume that people are rational in the sense that they can figure out what actions will increase their utility and that they take these actions. Then if we know what gives a person utility we can predict what actions they can take to obtain the maximum amount. So given a consumer’s preferences among goods and their income constraints and prices we can determine what they should consumer. A typical example is the indifference curve and income line analysis. Now of course when we apply this to specific cases we must make allowance for special local conditions and an important part of applied economics is figuring out how to do this in different cases. Now the question arises what are trying to maximize? Just maximizing utility is not very useful without specifying what goes into it. So usually we specify a few variables that go into the utility function like real income. If it is a short period the other factors probably don’t change much and we can ignore them. For other issues like the effect of taxes on work, we need to also include leisure. And when analyzing investments, how averse we are to risk matters.
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But what about other factors like our health, our relationships, and how others are doing. Usually our decision to buy X or Y don’t influence these things so we can justifiably ignore them. But one of the most vexing is what we care about the welfare of others. Most people care about more than just themselves; one way to deal with this is to analyze family units on the assumption that spouses and children are the most important groups that we care about other than ourselves. But there is evidence that altruism exists in the world. What we can do is to broaden the concept of selfish behaviour to that of self-interested behaviour . So people may wish to maximize their own income while at the same time giving some of it to charity. However most givers want to control at least partly what the money goes for. So we can assume that people are self-interested which sounds nicer and closer to observed behaviour but at the cost of limiting what we can predict about behaviour. What most economists do is finesse the problem; they don’t deny that altruism exists but for many problems they don’t need to take it into account. For firms it is usually easier to assume profit maximization.
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How Economics Works - How Economics Works According to...

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