Personal Economic Decisions
How
People
Make
Economic
Decisions
People make economic decisions on a daily basis, from choosing to go to the grocery store and
cook dinner or going out to eat. While in the general scheme of things this is a relatively small
decision to make it still can have impact on the economy. Yet a decision for a family to have a
child is more of a major decision and has far more of an impact on the economy then a dinner
decision. There are four basic principles to economic decision making and in the following I will
list and explain these. I will also provide and an example of a decision that I have made in my
personal experiences and what impact that has had or could have had if I had chosen to make a
different decision. While each decision we make may not have an impact on the economy, the
economy certainly comes into consideration when making any type of financial decision. The
Four
Principles
of
Economics
Principle
One:
People
Face
Trade
Offs
“The first lesson about making decisions is summarized in the adage “There is no such thing as a
free lunch.” (Mankiw, 2007, p. 4). In every decision that we make there is a certain give and a
certain take. Using the example of a dinner decision let’s look at the give and take. If you
choose to go to the grocery store you have to give time and energy into cooking and shopping
and the trade off is less time and energy for other projects or things that may be important to
you. Whereas if you choose to go out to eat, you save the time and energy are able to utilize
the additional time and energy in another way. Granted this is simplified for the purposes of
this example the theory is the same. In each and every economic decision we make for
ourselves we face a trade off of this decision. The basic trade off of most decisions comes
simply down to efficiency and equity. Principle Two: The Cost of Something Is What You Give
Up
to
Get
It
In the same respect that with every decision we have a trade off, there are also costs associated
with the same decision. Continuing with the same example, say you make the decision to go
out to eat for dinner instead of stopping at the grocery store. One potential cost is money, it in
most cases it is going to cost you more to go out to dinner than it is to spend the time shopping
and cooking at home. Is this the only cost of this decision? In most cases no, it is not. With going
out to eat you give up control about what is put into the food that you are eating. Not every
menu comes with a complete list of seasonings that are used in preparing the food. So you give
up the ability for control of every ingredient that is used, as well as preparation methods. The
list can go on and on but the general idea of cost is definitely apparent. Principle Three:
Rational
People
Think
at
the
Margin
Mankiw (2007) stated “Rational people often make decisions by comparing marginal benefits
and marginal costs.” (p. 6). Simply put people want the most for the least. This is probably one
of the most prevalent principles that we have seen in the US economy because of our current
economic situation. With people losing jobs and hours being cut the margins have narrowed.
People are looking to save money, and get the most out of the money they do spend. This is
most noticeable in the rise of prepared foods at grocery store chains. “Even in a recession,
time-strapped consumers are loath to give up eating out. However, they are easing the burden
on their wallets — and their cooking skills — by picking up fresh, restaurant-quality prepared
meals at grocery take-out displays and cafes.” (Pellegrini, 2009, p. 34). It is apparent from this
that while eating out maybe a marginal cost that people do not want, the preparation, cost, and
time efficiency of grocery store prepared meals is a marginal benefit that seems to be on the
rise.
Principle
Four:
People
Respond
to
Incentives
This principle is easy to spot with stores constantly vying for the consumer dollar with “buy one
get one free” or “five for five dollar” promotions. It is a definite tie in to the previous principle
as most consumers are looking to get the most for the least. Restaurants are starting to use
promotions of smaller portions for smaller prices in order to compete with the growing money
saving tight budgeted crowd. Mankiw (2007) provides a great example of this by stating “For
example, when the price of an apple rises, people decide to eat more pears and fewer apples
because the cost of buying an apple is higher. At the same time, apple orchards decide to hire
more workers and harvest more apples because the benefit of selling an apple is also higher. As
we will see, the effect of a good’s price on the behavior of buyers and sellers in a market—in
this case, the market for apples—is crucial for understanding how the economy allocates scarce
resources.”
(p.
7)
Personal
Economic
Decision
When I made the decision recently to purchase a new car, I was forced to evaluate the cost
versus the benefits in order to make the most economically sound decision I could. My current
car at the time was costing a significant amount in repairs and due to the age of the car was not
the most gas efficient car that I could have. The warranty of the car was just about up and it
seemed that most of the issues I was having with the car at the time were not covered under
warranty. The major plus of the car is that I did own the title, there was no car payment
needed. The biggest cost comparison was the cost I was having with my current car versus the
costs associated with a new car. The biggest benefit comparison came with evaluating the
benefits of a new car with the benefits of keeping the old car. In weighing the decisions I had to
look at the approximate costs associated with the old car, such as no car payment but constant
repairs, gas prices, and time lost due to the car being in the shop. In my evaluation I looked at
how with a new car I would have a car payment, yet I would have increased reliability, better
gas mileage and less time would be spent away from work and other things due to having a car
in the shop. This shows that there was more to this decision then just money. I spent probably
three to four months researching cars, looking for deals and comparing what would best meet
my needs. I not only needed to look at cost as in money but I have a significant commute
currently and when my current car was breaking down I was losing time from work, missing
important family gatherings, and not having the ability to spend time with friends. All of these
factored into my making the decision to finally buy a new car, money, time, work, family,
friends etc. I did not take the decision lightly, and rush right out to buy a car, but instead I took
my time and weight the marginal costs with the marginal benefits in an effort to make the best
decision I could. It was important that I did not put myself in a situation where I was unable to
meet my personal needs as well as my financial ones. Conclusion
As can be seen there is a lot that goes into making personal economic decisions. In the example
put forth of my personal decision to buy a car you can actually see each of the four principles of
economic decisions at work. From the trade offs of principle one to the search for the
incentives of principle four. It is obvious that the decision I made was both directly and
indirectly related to the economy, gas prices, work, and repair costs etc. Even though at the
time my decision may not have seemed to be influenced by the economy, the outcome truly
was.
References
Mankiw, Gregory (2007). Principles of Economics (4th ed.). Mason, Ohio: Cengage Learning.
Pellergini, Megan (2009). Closing the gap. National Provisioner, 223(2), 34-37. Retrieved May
16, 2009, from EBSCOhost database.