How People Make Decisions There is no mystery to what an economy is. Whether we are talking about the economy of Loss Angeles, the United States, or the whole world, an economy is just a group of people dealing with one another as they go about their lives. Because the behavior of an economy reflects the behavior oft the individuals who make up the economy, we begin our study of economics with four principles about individual decision .
People Face Trade-offs You may have heard the old saying, "There ain't no such thing as a free lunch." Grammar aside, there is much truth to this adage. To get something that we like, we usually have to give up something else that we also like. Making decisions requires trading off one goal against another. Consider a student who must decide how to allocate her most valuable researcher time. She can spend all of her time studying economics, spend all of it studying psychology, or divide it between the two fields. For every hour she studies one subject, she gives up an hour she could have used studying the other. And for every hour she spends studying, she gives up an hour she could have spent napping, bike riding, watching TV, or working at her part-time job for some extra spending money.
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TRADE OFF
Another trade-off society faces is between efficiency and equality. Efficiency means that society is getting the maximum benefits from its scarce resources. Equal it's means that those benefits are distributed uniformly among society's members.
In other words, efficiency refers to the size of the economic pie, and equality refers to how the pie is divided into individual slices.
When government policies are designed, these two goals often conflict. Consider, for instance, policies aimed at equalizing the distribution of economic well-being.
Some of these policies, such as the welt are system or unemployment insurance, try to help the members of society who are most in need. Others, such as the indevisual income tax, ask the financially successful to contribute more than others to support the government. Though they achieve greater equality, these policies reduce efficiency.
When the government redistributes income from the rich to the poor, it reduces the reward for working hard; as a result, people work less and
produce fewer goods and services. In other words, when the government tries to cut the economic pie into more equal slices, the pie gets smaller.
Recognizing that people face trade-offs does not by itself tell us what decisions they will or should make. A student should not abandon the study of psychology just because doing so would increase the time available for the study of economics. Society should not stop protecting the environment just because environmental regulations reduce our material standard of living. The poor should not be ignored just because helping them distorts work incentives. Nonetheless, people are likely to make good decisions only if they understand the options that are available to them.
Our study of economics, therefore, starts by acknowledging life's trade-offs.
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