Rational Decision Making

Rational decision making involves weighing up the marginal benefit and marginal cost of any activity. If the marginal benefit exceeds the marginal cost. It is rational to do the activity. If the marginal cost exceeds the marginal benefit. It is rational not to do it or to do less of it. Let’s take the case of when you go to the supermarket to do shopping for the week. Assume you have GH 30.00 Cedis to spend. Clearly, you will want to spend it wisely. With each item you consider buying, you should ask yourself what its marginal benefit is to you: in other words, how much you would be prepared to spend on it. This will depend on the prices and benefits of alternatives. Thus if you were considering spending GH 2.00 from GH 30.00 Cedis on wholemeal bread, you should ask yourself whether the GH 2.00 Cedis would be better spent on some alternative, such as white bread, rolls or crackers. The best alternative is the marginal opportunity cost. If the answer is that you feel you are getting better value for money by spending it on the wholemeal bread, then you are saying that the marginal benefit exceeds the marginal opportunity cost. It is an efficient use of your money to buy the wholemeal bread and forego the alternatives. Most decisions are more complex that this, as they involve buying a whole range of products. In fact, that is what you are doing in the supermarket. But the principle is still the same. In each case, a rational decision involves weighing up marginal benefits and marginal costs. In buying an extra jar of this, or pocket of that, worth the sacrifice of the alternative you could have purchased with the money? This is another example of a threshold concept because it is a way of thinking about economic problems. It is a general principles that be applied in a whole host of contexts: whether it is individuals deciding what to buy, how much to work, what job to apply for, or whether to study for a degree or take a job; or firms deciding how much of to produce, whether to invest in new capacity of new products or what type of people to employ and how many; or governments deciding how much to spend on various projects, such as roads, hospitals and schools, or what rates of tax to impose on companies that pollute the environment. In each case, better decisions will be made by weighing up marginal costs and marginal benefits.