In chapter 1, we discussed the idea of the “invisible hand” of the economy (Adam
ID: 1211011 • Letter: I
Question
In chapter 1, we discussed the idea of the “invisible hand” of the economy (Adam Smith 1776). The Invisible Hand is the idea that people who are selfish and only want to make themselves better off actually make decisions that are in the best interest of society (as if “led by an invisible hand”). The last test covered situations when this is not true - if the good is a Public Good, when actions have externalities, or if the good is a Common Resource. Behavioral economics suggests that we need to modify the Invisible Hand further because
the anchoring effect and the decoy effect suggest that a demand curve, and hence the concept of maximum willingness to pay, is stable over time.
people can have self-control problems, which means we cannot assume actions are always in the decision-maker’s best interest.
new Federal regulations mandate a revision to the Invisible Hand concept.
people estimate and compare the costs and benefits of any choice before taking action.
Explanation / Answer
Correct option (2).
If consumers or decision makers have self-control problems, actions are not necessarily in decision-maker's self interest, in which case the concept of invisible hand fails.
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