Microeconomics and Data Science — Decision Making
What are Economics and Microeconomics?
One of the major types of economics is microeconomics. Microeconomics aims to model economic activities as an interaction of individual economic agents pursuing their private interests.
Why is microeconomics important to data scientists?
A lot of people used to ask me “So you turned economics into Data Science?” Well, both of them have a lot of common interests, if one who knows economics well can have a better understanding of business and machine learning algorithms.
Even though those researchers have the same title “Data Scientist”, their jobs and their industries could be very different — healthcare, telecommunications sector, internet, energy sector, retail companies, the automotive industry. If we look through those companies and their products, we can see that their target is the consumers, users, or members. Therefore, understanding how individuals make decisions is very vital, and based on the relevant data, companies can put forward corresponding strategies to keep consumers’ utility. If microeconomics is a direction then data science is a car so we can drive the car and go to the given direction.
My previous blog explained the relationship between consumer behavior and behavioral economics, and how to analyze consumer behavior data using python. This blog will present the relationships between microeconomics and data science.
Individual Decision Making
Individual decision making is the fundamental theory in microeconomics. It focuses on how individual consumers and agents make decisions. Those individuals could be a person, a household, a firm, or the government. For example, in the retail industry, data scientists will personalize shopping itineraries based on consumer behavior data. Understanding consumer behavior is an important aspect of marketing and microeconomics can explain how potential customers will respond to new products or new services, why they demand, and what they do at particular price levels.
Demand, Utility, and Expenditure
For all individuals, their income and their demand for some goods are limited. From the point of consumers’ perspective, the utility function is an invisible relationship between price and income and also represents the satisfaction of their choices. Basically, utility function considers an individual who wants to maximize utility from a limited income. On the other hand, consumers want to lower their expenditures and maximize their satisfaction. The goal for researchers is to analyze how the price changes affect people’s demand and to calculate how much we need to compensate to keep all consumer's utility stable and constant. We can apply data science methods and combine microeconomics to explore those important insights through the data.
From the point of a company’s perspective, how to set up a price for a good under competitive economy is a big question. We can see during Covid-19, lots of companies have had big sales many times in order to manage their inventory and minimize losses. The after-discount price always changes by time. For example, Lancome had a promotion — Buy One Get One Free. Under the competitive economy, after Lancome’s promotion ended, Estee Lauder had the same promotion — Buy One Get One Free. Based on consumer reactions, those companies will launch smarter strategies to face this economic crisis.
Supply Chain, Profit maximization, Cost Minimization
The supply chain is used to improve supply chain management (strategic decisions) for suppliers and customers of a company. It basically describes the business processes to satisfy a customer’s demands. Supply chains rely on data scientists who can capitalize on the data and microeconomics can help data scientists understand the relationship between profit maximization, cost minimization, and supply chain better.
Conclusion
Microeconomics helps data scientists to understand consumers’ decisions and also helps companies to make strategic decisions (supply chains)based on consumers’ responses.
