How People Make Economic Decisions

How People Make Economic Decisions

Individuals make decisions based on four main principles which are tradeoffs, the cost of something one gives up to obtain it; rational people think marginal, and incentives. In the example of ScottysWeb, ScottysWeb had to make a decision comparing the marginal cost of buying new software for one client and the marginal benefit for the company in the long term. One must weigh the cost to obtain what is needed and whether that cost can be met. The cost of time and effort also must be evaluated to determine if the loss to the buyer is still beneficial. Individuals and businesses follow economic principles that affect the decision-making, interaction, and the economy as a whole.

Four Principles of Individual Decision-Making

Individual decision-making has four main principles (Mankiw, 2010). The first principle is tradeoffs. Trade off is simply the principle of what one is willing to trade for what one wants. A person will always have to give up something to obtain something he or she desires. The second principle is the cost of something one gives up to obtain it. One must be able to compare and decide if the cost of something is worth the trade off. This principle includes the cost of one’s time and energy. The third principle is that rational people think marginal. Rational people compare the marginal benefits with the marginal cost and only will react if those benefits are greater than the cost. The fourth principle is people respond to incentives. Rational people who make decisions based on benefits and cost will react to incentives (Mankiw, 2010). Incentives can influence many decisions whether it is individual or company based.

Marginal Cost, Benefits, and Incentives

An Example in Which a Decision was Compared by Marginal Cost and Benefits

ScottysWeb is a small business website design company and they picked up a new client who required services uncommon with most clients. These new services would require the purchase of...