Enc 5050

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

Kahneman’s article is an analysis of intuitive thinking and how it guides our decision-making. Although primarily aimed at the field of psychology, it is an interdisciplinary article with applications in economic theorising. Kahneman attempts to differentiate between two systems of thought, one of intuition (system 1) and one of reasoning (system 2), and argues that many judgements and choices are made intuitively, rather than with reason (a slower and more deliberate process). Intuitive decision making, which encompasses heuristics, although generally more efficient and rapid, makes the agent potentially subject to errors due to framing effects or violations of dominance. The analysis of the studies and theoretical situations also provides criticism of the commonly held model of the rational agent within economics. The article also further conceptualises Kahneman’s theory, the Prospect Theory (Kahneman & Tversky, 1979), which has descriptive applications of people’s choice in decision-making situations involving risk and known probability of outcomes. These situations are typically unexplained by the more normative rational agent model.

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Certification of Authorship: I certify that I am the author of this paper and that any assistance I received in its preparation is fully acknowledged and disclosed in the paper. I have also cited any sources from which I used data, ideas, words, either quoted directly or paraphrased. I also certify that this paper was prepared by me especially for this course.

Economists have often modelled human decision makers as completely rational. According to this model, rational people know their own preferences, gather and accurately process all relevant information, and then make rational choices that advance their own interests. However, Herbert Simon won a Nobel Prize in economics by pointing out that people are rational, but only boundedly so in that they seldom gather all available information, they often do not accurately process the information

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The difficulties that were accompanied with this approach led to deviation from the rational model. Complexity of modern organizations and the limited cognitive ability of decision makers were most influencing factors in the deviation . The decision makers were unable to operate under perfect rationality conditions. The information about a decision was mostly unavailable or unclear, and open to different interpretations. Also, the criteria of evaluating alternative solutions were not agreed upon. It also required very long time and a lot of energy of the decision makers to pursue a maximizing outcome. These constrains led to a conclusion that the absolute rational model is unreachable.

My independent research in the field started with my curious interest in the processes of how decisions made by individuals and governments, what are the main factors encouraged them to choose particular decision over other options and the outcomes of those decisions. Then, I started to read theories of great Economists, such as, Keynes, Freidman , Devenport, Kinnerly and Mason who wrote on decision-making and the ability of individual to interpret the information. Additionally, there were theories by De Bondt , Clark , Tversky and Kehnman who argued that human psychology is interconnected with economics which cannot be ignored. Learning those theories and comparing them with the real life happenings, my enthusiasm to get deeper insights of economics increased. Encouraged by this, I have compiled

A large part of early research into decision theory was based on the economic or normative approach, which tries to predict the actions of a so called ‘rational decision maker’. Although Bernoulli (1738) was the first to introduce the concept of utility into decision making, it was Von Neumann and Morgenstern’s book, ‘Theory of Games and Economic Behaviour’ which revolutionised the idea of a rational decision process. Von Neumann and Morgenstern (1947) explicitly outlined the

The paper concludes by highlighting the common characteristics of all the terms in relation to economic decision

Rational decision-making process and the bounded rationality theories can easily be compared and contrast. They both are applying to the decision-making process and have the same purpose: giving a framework to solve a problem. However, these two models have many differences.

Effective decision-making is very important on how probability can be applied therefore effective decision-making must be rational. As mentioned before, people who are deciding rationally are attempting to reach goals in a systematic way. They make sure

Key assumptions, based on Green and Saphiro (1994), there are two important assumptions used in rational choice approach:

extit{how decisions should be made} to optimise a reward function, by assuming that subjects are rational decision-makers citep{von2007theory}, behavioural economics describes