5 MOL! – I don’t need sleep…4 min read

Yesterday we defined a rational person to be someone who chooses what is best for herself given an objective, which is self-defined.

When we say best, we mean what the person believes to be best. It doesn’t matter what others think, or what society thinks, or what actually is best.

On the surface, this definition and its assumptions make rationality sound like a rather silly and trivial concept. Why would anyone choose anything other than what they think is the best for themselves?

Rationality?

Given a choice of receiving $1000 today and $1005 a week later, which would you choose? We are guessing you would choose the $1000 today.

But let’s change the scenario slightly. Suppose now the choice is between $1000 in a year’s time and $1005 in a year’s time plus one week. Which would you choose now? We are guessing it will be the $1005 option.

But here’s where it gets even more interesting. Fast forward a year, and suppose you get to decide again — $1000 now or $1005 a week later?

You see my point…

The same idea can be applied to procrastination. Suppose your work was due in a week’s time. On Monday you would prefer to do it on Tuesday; on Tuesday, Wednesday, and so on finally preferring Sunday to Saturday. But when it reaches Sunday, you would prefer to have started on Tuesday instead!

Depending on how you look at these problems, they may or may not be evidence of irrationality. Because this is not in your syllabus, we wouldn’t go into the details. But we hope this short write-up is enough to convince you that rationality is not a trivial concept.

Rationality does not imply self-interest

Before anyone misleads you into thinking otherwise, here’s another reminder that being rational does not mean you are selfish. Although most of the times the assumption of self-interested individuals is made, it is in fact an additional assumption on top of rationality. Someone can be rational and choose the objective of maximising others’ well-being. (But in practical problems this is never assumed to be the case.)

Consumers maximise satisfaction; Producers maximise profits.

Both seek to maximise the value they receive. Recall the definition of value:

Value = Total Benefit – Total Cost

For consumers, this means choosing a combination of goods and services to consume that maximises their well being. For producers this means choosing the quantity of a good or service to produce to maximise the profits they get.

The consumer choice problem is not in your syllabus; producer choice will be covered in detail in the second half of the year. In the next few posts, you will get a feel of the general principles involved as we guide you through a generic choice problem for an individual.

To summarise, rationality is not as trivial as it seems. It is also not easy to prove irrationality exists because of how it’s defined. Rationality does not imply self interested behaviour. It depends on the objective we set. Consumers seek well-being/satisfaction/utility and producers seek profits.

Question of the Day

Answers will be given tomorrow.

Which of the following decisions is consistent with rationality?

a. Spending $10 on a movie to get a $15 worth of benefits.
b. Spending $13 on bowling to get $13 worth of benefits.
c. Spending $15 on LAN to get a value of $10.
d. We do not have enough information to decide.

Answers to Monday’s Question is — Consumers seek to maximise satisfaction; producers seek to maximise profits and the government’s objective is to maximise society’s welfare.

Further Questions

  1. Google behavioural economics. What do you think is the key difference between behavioural economics and H2/ mainstream economics?

  2. How might the examples given above be reconciled with rationality?

  3. Using concepts from H2 Math or Secondary School Math, how would you maximise 5x - 2x^2 + 5? How might this be related to the concept of maximising value?

We look forward to seeing your responses in the comments section below!

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Till next time, dream economics.

Don’t just do something. Sit there.

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