economy questions
stepheny
1.3Optimization.pptx1.3 Optimization
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Chapter Outline
Two Kinds of Optimization: A Matter of Focus
Optimization in Levels
Optimization in Differences: Marginal Analysis
EBE
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Evidence-Based Economics:
How does location affect the rental cost of housing?
1. Two Kinds of Optimization: A Matter of Focus
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Do you always make the best choice?
Why not?
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Sometimes it is difficult to make choices because
Limited information
Sorting through information can be complicated
Inexperience
1. Two Kinds of Optimization: A Matter of Focus
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How to choose? (How to evaluate trade-offs?)
Either
Optimization in levels = look at total benefit – total cost (net benefit)
OR
Optimization in differences = look at the change in the net benefit of one option compared to another
1. Two Kinds of Optimization: A Matter of Focus
2. Optimization in Levels
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Decision-making using totals:
Where should I live?
Trade-off:
Cost vs. Distance
Exhibit 3.1 Apartments on Your Short List, Which Differ Only on Commuting Time and Rent and Are Otherwise Identical
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Apartment Options
Exhibit 3.1 Apartments on Your Short List, Which Differ Only on Commuting Time and Rent and Are Otherwise Identical
2. Optimization in Levels
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What does it cost to commute?
Availability of public transportation
Gasoline
Parking
Wear and tear on car
Opportunity cost of time
2. Optimization in Levels
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Apartment Options
Exhibit 3.2 Commuting Cost and Rental Cost Expressed in Common Units, Assuming an Opportunity Cost of Time of $10/hour
2. Optimization in Levels
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Exhibit 3.3 Total Cost Including Both Rent and Commuting Cost, Assuming an Opportunity Cost of Time of $10/hour
2. Optimization in Levels
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Comparative Statics: What if the opportunity cost of commuting changes?
2. Optimization in Levels
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Apartment Options
Exhibit 3.4 Commuting Cost and Rental Cost Expressed in Common Units, Assuming an Opportunity Cost of Time of $15/hour
2. Optimization in Levels
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Exhibit 3.6 Total Cost Curves with the Opportunity Cost of Time Equal to $10/hour and $15/hour
2. Optimization in Levels
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What’s Missing?
2. Optimization in Levels
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Optimizing in Levels
Express all costs and benefits in the same unit (like $)
Calculate total net benefit (benefit – costs) for each option
Choose the option with the highest net benefit
2. Optimization in Levels
3. Optimization in Differences: Marginal Analysis
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Decision-Making Using Marginal Analysis:
What’s the net benefit of one more?
How many servings do you want?
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A Comparison of the Apartments:
Exhibit 3.7 Relationship Between Levels and Differences (Margins), Assuming a $10/hour Opportunity Cost of Time
3. Optimization in Differences: Marginal Analysis
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Principle of Optimization at the Margin
If an option is the best choice, you will be made better off as you move toward it, and worse off as you move away from it.
3. Optimization in Differences: Marginal Analysis
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Optimizing in Differences:
Express all costs and benefits in the same unit
Calculate how the costs and benefits change as you move from one option to another
Apply the Principle of Optimization at the Margin—choose the option that makes you better off by moving toward it, and worse off by moving away from it.
3. Optimization in Differences: Marginal Analysis
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Exhibit 3.8 Total Cost of Each Apartment and the Marginal Cost of Moving Between Apartments, Assuming an Opportunity Cost of $10/hour
3. Optimization in Differences: Marginal Analysis
EBE
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Evidence-Based Economics:
How does location affect the rental cost of housing?
University of Miami
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Evidence-Based Economics:
How does location affect the rental cost of housing?
EBE
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Exhibit 3.9 Apartment Rent in Portland, Oregon, Depends on Distance from the City Center
EBE
Key Ideas
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When an economic agent chooses the best feasible option, she is optimizing.
Optimization in levels calculates the total net benefit of different alternatives and then chooses the best alternative.
Key Ideas
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3. Optimization in differences calculates the change in net benefits when a person switches from one alternative to another, and then uses these marginal comparisons to choose the best alternative.
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Key Ideas
Both optimization approaches lead to the same answer.
Optimization in levels and optimization in differences give identical answers.
