DECISION MAKING GONE WRONG??

This Module, Decision Making, covers a very elegant and theoretical analysis of the decisions that we make on an everyday basis. However, the entire chapter assumes that we as consumers are completely rational. Given limited income and time, the field of economics assumes that individuals and businesses will end up making the best choicesto maximize our total utility, or satisfaction.

Below are a few questions which need to be answered with the help of the following video andNew York Times article

https://www.nytimes.com/2017/10/09/business/nobel-economics-richard-thaler.html By Binyamin Appelbaum Oct. 9, 2017 WASHINGTON Richard H. Thaler, whose work has persuaded many economists to pay more attention to human behavior,and many governments to pay more attention to economics, was awarded the Nobel Memorial Prize in Economic Sciences onMonday. Professor Thaler is the rare economist to win a measure of fame before winning the prize. He is an author of a best-selling book,"Nudge," about helping people to make better decisions. He also appeared in the 2015 film "The Big Short," delivering what issurely one of the most widely viewed tutorials in the history of economics, on the causes of the 2008 financial crisis. The Nobel committee, announcing the award in Stockholm, said that it was honoring Professor Thaler for his pioneering workin establishing that people are predictably irrational that they consistently behave in ways that defy economic theory. Peoplewill refuse to pay more for an umbrella during a rainstorm; they will use the savings from lower gas prices to buy premiumgasoline; they will offer to buy a coffee mug for $3 and refuse to sell it for $6. The committee credited Professor Thaler, who teaches at the University of Chicago Booth School of Business, for movingeconomics toward a more realistic understanding of human behavior, and for using the resulting insights to improve publicpolicies , notably a sweeping shift toward the automatic enrollment of employees in retirement savings programs. "In order to do good economics, you have to keep in mind that people are human," Professor Thaler said at a news conferenceafter the announcement. Asked how he would spend the prize money of about $1.1 million, Professor Thaler replied, "This is quite a funny question." Headded, "I will try to spend it as irrationally as possible." The economics prize was established in 1968 in memory of Alfred Nobel by Sweden's central bank and is awarded by the RoyalSwedish Academy of Sciences. One of Professor Thaler's frequent collaborators, Daniel Kahneman, was awarded the prize in2002. Another behavioral economist, Robert J. Shiller, who was among the winners in 2013, hailed Professor Thaler on Mondayas "one of the most creative spirits in modern economics." Mainstream economics was built on the simplifying assumption that people behave rationally. Economists understood that thiswas not literally true, but they argued that it was close enough. Professor Thaler has played a central role in pushing economists away from that assumption. He did not simply argue thathumans are irrational, which has always been obvious but is not particularly helpful. Rather, he showed that people depart fromrationality in consistent ways , so their behavior can still be anticipated and modeled. "Thaler more than anyone has disciplined the idea of animal spirits," said Cass Sunstein, a Harvard law professor who wrote"Nudge" with Professor Thaler. The 2008 book argued that governments could use behavioral insights to improve the efficiencyand quality of a wide range of public services. Two years later, the British government created a department to pursue theexperiment. Other countries, including the United States , followed suit. Britain's former prime minister David Cameron described the inspiration as a "very simple, very conservative thought gowith the grain of human nature." Nobel in Economics Is Awarded to Richard Thaler Daily business updates The latest coverage of business, markets andthe economy, sent by email each weekday. Get it sent to your inbox. Some nudges are relatively minor. The British government found that people were more likely to pay automobile registrationfees if billing letters included a picture of the vehicle . Other nudges are far-reaching. Observing that inertia limitedparticipation in beneficial programs, like retirement savings plans or school lunch programs, Professor Thaler proposed thatgovernments and employers should make participation the default option. People are free to opt out, but inertia is on the side ofthe preferred outcome. A similar proposal, "Save More Later," offsets the tendency to place a relatively high value on current income by allowingpeople to commit to setting aside more money next year. Professor Thaler, 72, was born in East Orange, N.J., and graduated from Case Western Reserve University before earning adoctorate in economics at the University of Rochester in 1974. At the time, the field was gripped by an enthusiasm for theassumption that people are rational actors. An indicative and prevalent piece of economic reasoning asserted that ordinarypeople would adjust their spending habits whenever the government adjusted fiscal policy because they would foresee theconsequences. Professor Thaler has written that he began to have "deviant thoughts" in graduate school. He would ask people about theiractual choices, an exercise that most economists regarded as irrelevant, and he found that the answers he got were differentfrom what was in textbooks. His career was shaped by his discovery of the work of Professor Kahneman and his longtime collaborator, Amos Tversky , whowere advancing the idea that economics needed to grapple with actual human behavior. Professor Thaler became theircollaborator and played a central role in bringing the work into the economic mainstream. In 1995, Professor Thaler joined the faculty at the University of Chicago, the institution most associated with a rationalistapproach to economics. "I knew I was going to be in for a fight and I thought it would be good for me and good for them," he saidin an interview on Monday. "The best way to sharpen your skills is to play against the best." Professor Thaler's academic work can be summarized as a long series of demonstrations that standard economic theories donot describe actual human behavior. For example, he showed that people do not regard all money as created equal . When gas prices decline, standard economictheory predicts that people will use the savings for whatever they need most, which is probably not additional gasoline. Inreality, people still spend much of the money on gas. They buy premium gas even if it is bad for their car. In other words: Theytreat a certain slice of their budget as gas money. He also showed that people place a higher value on their own possessions. In a famous experiment, he and two co-authorsdistributed coffee mugs to half of the students in a classroom, and then opened a market in mugs. Students randomly given amug regarded it as twice as valuable as did the students who were not given a mug. This "endowment effect" has since been demonstrated in a wide range of situations. It helps to explain why real markets do notwork as well as chalkboard models. One of Professor Thaler's most profound findings involves the importance of fairness. He showed that people will penalizeunfair behavior even if they do not benefit from doing so. This has important economic implications. It explains, for example, why an umbrella store may choose not to raise pricesduring a rainstorm. It also illuminates the mechanics of unemployment. Standard economic theory predicted that during aneconomic downturn, employers would cut wages to a level consistent with the demand for goods or services, meaning there wasno reason to think a downturn would produce unemployment. But workers regard wage cuts as unfair. And so employers, seeking to avoid angering the workers they plan to keep, prefer tocut employees rather than wages. In a presidential address to the American Economic Association in January 2016, Professor Thaler predicted behavioraleconomics would succeed so well it would eventually disappear. "I think it is time to stop thinking about behavioral economics as some kind of revolution," he said. In time, he added, "alleconomics will be as behavioral as the topic requires."

Video:Dan Ariely - Decision Making

https://www.youtube.com/watch?v=9X68dm92HVI&t=2s

Discussion questions:

• 1. Define "rationality" and comment on thekey problem with the modelsused in the field of economics.
• 2. Discuss an example from Dan Ariely's video that was surprising and provide an answer to the following question: "are we in control of our decisions?"
• 3. How does Richard Thaler plan to spend his Nobel Peace Prize money (from thearticle above
• 4. what example can be given of a time when people have behaved "irrationally" and how that might have distorted an "optimal" or "economic" outcome.

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• and what did he mean by this response?