CHapter 3 Rational Behavior

CHapter 3 Rational Behavior - CHAPTER 3 Principles of...

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CHAPTER 3 Principles of Rational Behavior at Work in Society and Business We are not ready to suspect any person of being defective in selfishness. Adam Smith ith this chapter we begin a detailed examination of key issues in microeconomics, namely the study of how prices are determined in individual markets. Prices are important – or, rather, should be important – to managers because of their unavoidable impact on the decisions of managers within individual firms. We have already seen how the forces of supply and demand determine prices (Chapter 2). Now we will explore the determinants of the supply and demand for goods, services, and resources. Microeconomics rests on certain assumptions about individual behavior. One is that people are capable of envisioning various ways of improving their position in life. This chapter reviews and extends the discussion begun in Chapter 1 of how people – business people included -- go about choosing among those alternatives. According to microeconomic theory, consumers and producers make choices rationally, so as to maximize their own welfare and their firms’ profits. This seemingly innocuous basic premise about human behavior will allow us to deduce an amazing variety of implications for business and every other area of human endeavor. Rationality: A Basis for Exploring Human Behavior People’s wants are ever expanding. We can never satisfy all our wants because we will always conceive of new ones. The best we can do is to maximize our satisfaction, or utility, in the face of scarcity. Utility is the satisfaction a person receives from the consumption of a good or service or from participation in an activity. Happiness, joy, contentment, or pleasure might all be substituted for satisfaction in the definition of utility. Economists attempt to capture in one word—utility—the many contributions made to our well being when we wear, drink, eat, or play something. The ultimate assumption behind this theory is that people act with a purpose. In the words of von Mises, they act because they are “dissatisfied with the state of affairs as it prevails.” 1 1 Ludwig von Mises, The Ultimate Foundations of Economic Science: An Essay on Method (Princeton, N.J.: D. Van Nostrad, 1962), pp. 2—3. W
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