Economics / Unit 1: Scarcity, Choices and Opportunity Cost
1.5 Thinking at the Margin and Incentives
Notes
- Marginal means "additional" or "one more." Most decisions are about whether to do a little more or a little less.
- Marginal benefit (MB) is the extra benefit of one more unit. Marginal cost (MC) is the extra cost of one more unit.
- Rule: keep going as long as the next unit's MB is at least its MC. Stop before a unit whose MC is greater than its MB.
- Incentives are rewards or penalties that motivate behavior. Positive incentives (a sale, a bonus) encourage an action; negative incentives (a fine, a tax) discourage it.
- Cost-benefit analysis compares all the costs and benefits of a decision.
- Worked example: a club sells pizzas for $10 each, so MB is $10 per pizza. The 1st through 4th pizzas have marginal costs of $4, $6, $9 and $12. The club should make 3 pizzas: the 3rd adds $10 of revenue for $9 of cost, but the 4th adds $10 for $12.
Practice
Tutoring costs $20 per hour. Mia values the 1st hour at $45, the 2nd at $30, the 3rd at $24 and the 4th at $12. How many hours should she buy?
MB exceeds the $20 MC for the first three hours; the 4th hour is worth only $12.
A city charges a $100 fine for littering. This is an example of:
A penalty discourages the behavior.
"Thinking at the margin" means:
Marginal analysis looks at the effect of one more unit of an activity.
Ready for more? Take the Unit 1 test.