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Choice in economics 2. Rationality and preferences 3. Social choice 4. The limitations of social choice Definition: Preferences A description of how a decision-maker would rank (compare the d... esirability of) any two alternatives, assuming the alternatives are available to the decision-maker at no cost. In economics we regard preferences as being innate to each individual. Everyone is different, and no two people share identical preferences. Definition: Revealed preferences The preferences a decision-maker reveals through the choices she/he makes. If you choose option A when option B is available, you reveal that your ranking of the two alternatives is either A  B or A ∼ B.Definition: Stated preferences The preference a decision-maker reports when asked about real situations they might encounter. Economists tend to regard revealed preferences as being more reliable than stated preferences because revealed preferences are derived from actions that affect the welfare of the decision-maker.Exercise: Saturday night Rationality and preferences Definition: Rational preferences A decision-maker’s preferences are rational if they are complete and transitive. If a decision-maker’s preferences are not rational, she/he may encounter a situation in which she/he cannot make a choice from amongst the available alternatives. Complete preferences A decision-maker’s preferences are complete if she/he can rank every pair of alternatives. That is to say, for any two alternatives A and B either, • A  B, or, • B  A, or, • A ∼ B. Note: The inability to rank two alternatives is not the same as being indifferent between the two alternatives.Transitive preferences A decision-maker’s preferences are transitive if the rankings are consistent in the following sense: For any three alternatives A, B and C, • if A  B, • and B  C, • then A  C. If a decision-maker’s preferences are complete but not transitive, then there must exist cycles within the preferences.Cycles A C B A cycle exists in an individual’s preferences whenever there are three alternatives A, B and C such that: • A  B, • B  C, • C  A. Faced with a choice between A, B and C, the decision-maker will be unable to settle on an alternative.Money pumps A C B $ $Equity versus efficiency One of the fundamental trade-offs facing society, is the trade-off between equity and efficiency. • If a society is equitable, then economic wellbeing is evenly distributed amongst its citizens. • If a society is efficient, then it is maximising the production of goods and services given its scarce resources. Policies that increase equity (reduce inequality) tend to reduce economic efficiency. By redistributing income (or wealth) from rich to poor, they typically reduce the incentive for hard work. Single-peaked preferences Each individual in society has preferences over the range of alternative policies. We say that an individual’s preferences are single peaked if: • The individual’s preferences are rational (complete and transitive). • The individual has a single, most-preferred policy. • If two alternative policies lie on the same side of the most-preferred policy, the individual prefers the policy closest to the most-preferred policy [Show More]

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