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The underlying assumptions

Economic assumption: Things expected to be true although there is no definite proof.

Rational: based on clear thought or reason.

Maximise: to increase something such as profit, satisfaction or income as much as possible.

Economists use models to predict how people will behave. To do this, they assume that consumers and businesses act rationally, making thoughtful, logical choices.

The two main assumptions:

• Consumers aim to maximise their benefit: they choose whatever gives them the most satisfaction. For example, if the same product is sold at different prices, they buy the cheapest. If the price is the same everywhere, they buy the best quality.
• Businesses aim to maximise their profit: they choose whatever gives the best financial result. For example, they buy the cheapest raw materials of the same quality, and they charge the highest price that customers are willing to pay.

Why consumers may not maximise their benefit

In real life, consumers do not always behave rationally.

Three reasons why consumers may not maximise their benefit:

• Consumers are not always good at calculating their benefits: satisfaction is hard to measure in numbers, so they may overestimate or underestimate how much benefit a product will give them. They are also not always good at working out what is or is not good for them, e.g. adverts may not tell them about a product’s harmful effects.
• Consumers have habits that are hard to give up: some stay loyal to a brand and keep buying it out of habit, even when other brands offer better value. Some products, such as sugary drinks, can be habit forming, so people keep buying them even when they know they are bad for their health.
• Consumers sometimes copy others’ behaviour: they may buy the same products as friends to fit in with a group, or pick their parents’ brands because they know and trust them.

Why producers may not maximise their profit

Three reasons why producers may not maximise their profit:

• Producers may have managers that revenue maximise or sales maximise: owners often let managers make decisions, and managers may have different objectives. For example, a manager’s pay may rise with the amount sold, so they try to sell as much as possible. To sell more, prices often have to be cut, so profit on each extra sale falls.
• Producers may prioritise caring for customers: for example, they may charge low prices, give free extras or spend more on training staff to give excellent service. This adds to costs or cuts revenue, so profit is lower.
• Producers may complete charitable work: some businesses give money or services to good causes, e.g. donating to charities or selling some services for less than they cost to provide. Charities themselves aim to raise money and awareness for a cause, not to maximise profit.

These choices are not always bad for a business in the long run. Caring for customers or doing charitable work can bring good publicity, a better reputation, more loyal customers and more motivated staff. This may increase revenue and help profit later.