What are the 3 topics at the disciplines frontier to show how economists are trying to expand their understanding of human behaviour and society?
- Asymmetric information- imbalance in information in society affects choices made
- Political economy
- Behavioural economics- bringing Psychology into economic issues
What is information asymmetry?
What is a hidden action and hidden characteristic example?
A difference in access to knowledge that is relevant to an interaction
“I know something you dont know” taunt
Car seller knows more about the car then the buyer- hidden characteristic
Worker knows more that’s his employer about how much effort he puts into his job- hidden action
What is a moral hazard?
Agent?
Principal?
Moral hazard- tendency of a person who is imperfectly monitored to engage in dishonest or undesirable behaviour
Agent- person who is performing an act for another person, called principal
Principal- person for whom the other person, the agent, is performing some act
Principal monitors agents work
What are the 3 ways employers can deal with the moral hazard problem?
- Better monitoring- cameras to catch irresponsible behaviour
- High wages- higher paying means more motive to work
- Delayed payment- delaying compensation so if caught slacking can be fired with no pay
What is adverse selection?
Tendency for the mix of unobserved attributes to become undesirable from the standpoint of an uninformed party
Seller knows more about the attributes of good being sold than the buyer
Example: used cars
What is signalling?
An action taken by an informed party to reveal private information to an uninformed party
Ex: advertising they have high quality products
Students getting degrees to signal they are high quality workers
Signals must be costly for the person portraying it
It must be less costly or beneficial for the person with the higher quality product
What is screening?
An action taken by an uninformed party to induce an informed party to reveal information
Buyer of used car asking if mechanic can check out car first
What are the 3 facts that complicate governments involving in asymmetric information?
- Private markets can sometimes deal with information asymmetries on its own (signalling and screening)
- Government rarely has more information than the private parties
- Government itself is an imperfect institution
What is the condorcet paradox?
The failure of majority rule to produce transitive preferences for society
Ex: A beats B, B beats C, but then C beats A in 3 separate votes
What is the broad and narrow lesson of the condorcet paradox?
The narrow lesson is that when there are more than 2 options, setting the order of which items are voted can have a powerful impact on the outcome of a democratic election
The broad lesson is that majority voting by itself does not tell us what outcome a society really wants
What is borda count?
A voting system where voters rank their selections and last place gets one point, second last gets 2 points, third last gets 3 points and so on
What are the 4 properties that must be satisfied for a perfect voting system?
- Unanimity- If everyone prefers A over B, then A should beat B
- Transitivity- If A Beats B, and B beats C then A should beat C
- Independence of irrelevant alternatives- ranking of A and B should not depend on if there’s a C option
- No dictators- no person always gets his or her way, regardless of everyone else’s preferences
No voting system can fulfill these mathematically
What is arrows impossibility theorem?
A mathematical result showing that, under certain assumed conditions, there is no scheme for aggregating individual preferences into a valid set of social preferences
What is the median voter theorem?
A mathematical result showing that if voters are choosing a point along a line and each voter wants the point closest to his most preferred point, then majority rule will pick the most preferred point of the median voter
The median voter is a voter exactly in the middle of the distribution and according to this rule the majority rule will produce the outcome most preferred by the median voter
What are homo economicus?
Rational species that as firm managers, maximize profits and as consumers they maximize utility
However we are Homo sapiens, not maximizes but satisficers
What are the 3 main systematic mistakes people make in decision making?
- People are over confident- too sure of our own abilities
- People give too much weight to a small number of vivid observations- car is rated amazing but your one friend says it sucks so you listen to friend
- People are reluctant to change their minds- we interpret evidence to hold beliefs we already have
What is left digit bias?
The reason prices are often 4.99 and not 5.00 cause we interpret the 4 being cheaper
What is the ultimatum game?
Two players are told they can win 100 dollars, they flip a count for player A and B
Player A divides 100 between them and player B can accept or decline it and they walk away with nothing
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