Paradox of Saving (also known as paradox of thrift) – This is a classic example of the fallacy of composition. It would be easy to reason that if one individual can save more money by spending less, than society or an entire economy can save more money by spending less. However, this simply isn’t true. The fact is that society can save more only by spending more. It seems crazy, right? But if everyone reduced spending, than the demand for products and services would decline. This decline would lead to lower growth and revenue for businesses. As a result, businesses might have to lower wages or lay off individuals. People would have less income and could save less! What is true for an individual in the economy is not necessarily true for the whole economy.
Real Estate Market – You may have heard that the real estate market is hot in your neighborhood or city. People are selling houses within a few days of listing them on the market. Your friend told you that he is looking for a house and is having a hard time finding one, because every time he puts an offer in on a house, someone else gets it first! However, what is happening in Arizona, California or Florida may be totally different than what is happening for the rest of the U.S. real estate market. Although a specific state or city may have booming real estate sales, it doesn’t mean that most of the other cities in the country are experiencing the same thing.
The Fallacy of Composition in Economics: Definition & Examples
Examples
Education Portal
taught by Aaron Hill
http://education-portal.com/academy/lesson/the-fallacy-of-composition-in-economics-definition-examples.html#lesson
Learn what the fallacy of composition is and why this type of reasoning can lead to the wrong conclusions in a variety of economic situations. Find out how your ability to save money as compared to the country as a whole is a great example of this fallacy.
Definition
Have you ever been at a sporting, musical or community event and thought to yourself, ‘If we leave a few minutes early, we can beat all the traffic?’ If you left early, you certainly could miss out on some traffic. However, you might discover that everyone was thinking the same thing, and it still takes a long time to get out of the parking lot. You’ll only manage to leave the parking lot early when just a few of you are thinking that way, but not when everyone at the event has the same strategy. This phenomenon has to do with the fallacy of composition.
The fallacy of composition arises when an individual assumes that something is true of the whole just because it is true of some part of the whole. For example, if you stand up at a concert, you can usually see better. You may thus directly infer that if everyone stands up, everyone can see better. If you have been to a concert or sporting event, you know it doesn’t work that way. An entire concert of people standing will lead to obscured views for the majority of attendees. Therefore, what might be true for one individual in the crowd is not true for the whole crowd.
Why does this fallacy exist, and why do people think this way sometimes? The answer is that people usually draw conclusions and reason from their own individual experiences and situation. It is easiest to compare your situation and then reason that the same actions would often result in the same results for society and the economy as a whole. Although this may be true in some circumstances, it is not always true in others. Sometimes, it may simply be reasoning that results from not having all the necessary facts and information available to draw the correct conclusion. You may only know what you have experienced yourself. Let’s look at some more concrete examples.