ECON 101 Study Guide - Midterm Guide: Bounded Rationality, Risk Aversion, Loss Aversion
Econ 101 Chapter 9 Reading Notes
Decision Making by Individuals and Firms:
Behavioral economics: the branch of economics that studies predictably irrational econ
behavior
Opportunity costs arise because resources are scarce
The true cost of anything is what you must give up to get it: opportunity cost
The opportunity cost is often more than the cost of any outlays of money
The explicit cost is a cost that requires an outlay of money
Implicit cost doesn’t involve an outlay of money- it is measured by the value of the
benefits that are foregone
A common mistake is to ignore implicit costs and focus only on explicit
Ignoring the implicit cost often leads to seriously misguided decisions
Opportunity cost: its explicit cost plus its implicit cost
Opportunity cost: in considering the cost of an activity, you should include the cost of
using any of your own resources for that activity
Accounting profit: her revenue minus her explicit cost
To make the right decision, the one that leads to the best possible economic
outcome, she needs to calculate her economic profit- the revenue she receives from
the teaching degree minus her opportunity cost of staying in school
The economic profit is usually less than accounting profit because there are almost
always implicit costs in addition to explicit costs
When economists use the term profit, they are referring to economic profit
Capital is the total value of the assets of an individual or a firm: consists of cash in
the bank, stocks, bonds, and the ownership value of real estate (financial assets)
In the case of business, capital also includes its equipment, tools, and its inventory of
unsold goods and used parts (physical assets)
Implicit cost of capital: the income the owner of the capital could have earned if the
capital had been employed in its next best alternative use
You must carefully keep track of opportunity costs when making a decision
An either-or decision is one in which you must choose between two activities
How-much decisions would be deciding how many hours to dedicate to each activity
Principle of either-or decision making: when making an either-or choice, choose the
one with the positive economic profit
In either-or decisions, mistakes most commonly arise when people or businesses use
their own assets in projects rather than rent or borrow assets: they fail to account for
the implicit cost of self-owned capital; in contrast, when they rent or borrow assets,
they show up as explicit costs
Businesses run by the owner often fail to calculate the opportunity cost of the
owner’s time in running the business- small businesses often underestimate their
opportunity costs and overestimate the economic profit of staying in business
The Role of Marginal Analysis:
How much is a decision at the margin
Marginal analysis involves comparing the benefit of doing a little more of some
activity with the cost of doing a little bit more of that activity
Marginal benefit: the benefit of doing a little bit more of something
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ECON 101 Full Course Notes
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Document Summary
Behavioral economics: the branch of economics that studies predictably irrational econ behavior. Opportunity costs arise because resources are scarce. The true cost of anything is what you must give up to get it: opportunity cost. The opportunity cost is often more than the cost of any outlays of money. The explicit cost is a cost that requires an outlay of money. Implicit cost doesn"t involve an outlay of money- it is measured by the value of the benefits that are foregone. A common mistake is to ignore implicit costs and focus only on explicit. Ignoring the implicit cost often leads to seriously misguided decisions. Opportunity cost: its explicit cost plus its implicit cost. Opportunity cost: in considering the cost of an activity, you should include the cost of using any of your own resources for that activity. Accounting profit: her revenue minus her explicit cost.
