Economists dispute the popular wisdom that “anything worth doing is worth doing well.” That’s because of their understanding of the concept of marginalism. Most choices in life are made “at the margin.” We obviously need food and water to live, but, usually, once we have enough of these things, their marginal value – the price we are willing to pay for a little bit more of them – rapidly diminishes.

The insights of marginalism are important to understanding many public debates. Arguments over health spending are a good example. Although we might spend all that is needed to fix a broken leg or save a particular life, much health care spending “on the margin” is not about meeting vital needs. We will weigh the “need” for an extra treatment on our tennis elbow very differently if our cost is a $10 insurance co-pay versus a much higher fee out of pocket.

If we think about marginal cost as economists do, we will use well the time and money we devote to a task, but we will rarely do as much as interested professionals think necessary. How well we do a thing must be weighed against all the other things worth doing.

In this chapter, we describe final demand by domestic agents – private households, government, and investors – and by the export market. Data in the Social Accounting Matrix (SAM) describe agents’ incomes and the commodity composition of their spending. The computable general equilibrium (CGE) model depicts demand by domestic agents as a three-stage decision. First, consumers decide on the quantities of each commodity in their consumption basket. Second, an “Armington” import aggregation function describes their choice between domestic and imported varieties of each commodity. In some CGE models, a third stage describes the sourcing of imports. We survey functional forms commonly used in CGE models to describe private household preferences. We also introduce the concept of “national welfare,” which is the monetary value of changes in a nation’s well-being following an economic shock.

An important component in the analysis of policy instruments is the modelling of human behaviour. In the previous chapters, humans are (usually) considered as rational and perfectly informed profit-maximisers. This assumption is gradually relaxed in the present chapter. The first section addresses the issues of decreasing marginal utility, multiple objectives and time preference. The following section adds the problem of risk and uncertainty and presents a standard economic model for decision making under risk. The assumption of selfish profit maximisation is relaxed subsequently by introducing a model of fairness and inequity aversion. The following sections present approaches for modelling situations of imperfect information and limited cognitive abilities, as well as learning and behavioural change. The concluding section discusses and provides some linkages to Chapter 7 on individual-based models and provides some references from the literature on agent-based modelling.